Even as they prepare their annual budgets, governments don’t always enjoy the freedom of action they would like.  The intervention of outside agencies like the IMF is all too familiar to many governments whose economies have run into the buffers, and even at the best of times New Zealand governments have been content to hand over major decisions about the economy to an “independent” (for which read “unaccountable”) bank.

In terms of democratic accountability, however, we seem to be plumbing new depths in this country with the tacit acknowledgment that the government’s budget strategy is being shaped by the view taken of us by a mid-level desk officer in an overseas credit rating agency.  How did we, as a sovereign country, become so powerless to decide our own destiny?  Why, at a time when the economic crisis has called into question so much of what was the prevailing orthodoxy, are we still so dependent on the opinions of bean-counters who are focused on only one small part of our economic landscape?

We don’t have to look far for the answers.  After decades of poor economic performance and – as a consequence – of living beyond our means, we are now one of the world’s most indebted countries.  On some measures, only Iceland had a greater overseas debt in proportionate terms than we have – and we know what has happened to Iceland.

The size of our debt means that we are dangerously dependent on the willingness of others to lend to us.  In times of plentiful and relatively cheap credit, borrowing was not a problem, though even then the high interest rates we had to offer crippled our productive economy.  But the global crisis has changed all that.  Credit is now in short supply and countries like New Zealand, with huge debt to finance, will have to pay an interest rate premium to borrow – if they are able to borrow at all.

The level of interest will depend crucially on our credit rating – and because our debt is proportionately so big, the cost of even a small hike in interest rates as a consequence of a credit rate downgrade will be damagingly high.  That is why the government is so concerned about the view taken of us by Standard and Poor’s, and why this month’s budget will be framed to please them.

This, then, is the long-term outcome of the economic policy we have pursued for twenty-five years – that our government feels that it must dance to the tune of a credit rating agency rather than address the worst recession in living memory with the policies that stand the best chance of bringing it to an early end.

There is, however, a mystery at the heart of the government’s acceptance that it must toe the credit rating line.  The focal point of economic strategy appears to be the over-riding priority given to the size of the government’s debt.  The scope for stimulating the economy through, for example, investing in much-needed infrastructure (which most commentators agree is the best way to deal with a recession) is said to be greatly constrained by a government debt that threatens to shoot into the stratosphere within a few years if public spending limits are relaxed.

But is this really the case?  Let us leave to one side the argument I have advanced on other occasions – that stimulus now through public spending is the best way of reducing government debt in the medium to longer term.  Let us instead register that even pessimistic projections of how far and fast the deficit might grow would still leave government debt at levels that in both our own historic terms and in terms of international comparisons would be comparatively low.

It is not government debt that is the problem.  Careful management over the past decade has left the government’s finances in pretty good shape.  We can afford, more than most countries, to allow the government deficit to grow a bit, if that is the price to pay for prudent investment in our economic future and for getting on top of the recession quickly.

Our real problem is not the government and the role that it might play in putting in place a counter-recessionary stimulus package.  The underlying problem is the country’s indebtedness – what banks, businesses, individuals as well as the government need to borrow to fund our failure to pay our way.  That problem is a function of the long-term failure of economic policy and performance – and it will only get worse if we fail to use the power of government to rescue us from recession.

This is a time for keeping our eyes firmly on the ball.  There is a bigger game in town, in other words, than the government’s debt and the risk of a credit rating downgrade.  The budget strategy should focus on the country’s accounts, not just the government’s.  The best way of looking after the latter is to get the former right.

Bryan Gould

15 May 2009