Pre-EFU 2008: Can we have tax cuts?

According to Dr Cullen we can have tax cuts – because he saved up our money for a rainy day.

Now I agree with the idea of running a surplus during the upswing of a “business cycle” and deficits on the way down, however I feel that Dr Cullen is again abusing terminology to make himself sound like a good fiscal manager.

I have said it before and I will say it again, Dr Cullen has been fiscally irresponsible (this post also goes into more detail around tax policy and cycles). He has gone past the automatic fiscal stabilisers that exist in government and allowed average tax rates to rise over the last few years. He has abused the Keynesian name by implicitly indulging in “fiscal tinkering” – a policy no economist would support. This is because not adjusting for “fiscal drag” is effectively the same as increasing taxes.

Back to the issue at hand, the answer to the title of this post is yes.

Tax cuts are a structural issue, the tax rate should be independent of the economic situation – and even with the downward revisions to what New Zealand’s “potential” output level is, the current tax rates are not long run neutral.

However, the tax rate should be set such that the government runs a balanced budget (and so, over the economic cycle it has to provide enough revenue to pay for government spending). Allowing taxes to increase (fiscal drag) and then cutting them rapidly distorts economic decision making, and has left us in a worse situation to deal with the financial crisis than if we had been adjusting for fiscal drag every year (by increasing uncertainty, and distorting the allocation of resources between periods of time).

Now Dr Cullen is forecasting a situation where he overspends in the medium term – going from one type of irresponsibility to the other type does not make him a sound fiscal manager.

When National comes out, they will need to be explicit that higher tax cuts come with the requirement of lower spending – if they are unwilling to admit this then they are just as bad.

Update: Others have more intelligent things to say, from Left to Right: (No Right Turn), (The Standard), (Inquiring Mind), (The Hive), (Kiwiblog), (Keeping Stock), (No Minister)

  • goonix

    Surely this result is the final nail in Labour’s coffin?

  • “Surely this result is the final nail in Labour’s coffin?”

    How so? I think the tripe Dr Cullen was saying about his fiscal responsibility was annoying, but how is this the “final nail in their coffin”?

  • goonix

    I’m referring to the full PREFU, not your pre-EFU analysis.

    The PREFU shows a disastrous result for the country.

  • goonix

    Edit: I should have said “your pre-PREFU analysis”. 😛

  • Steve

    it depends how this is taken; It could be taken as ‘labour has spent the bank too and now we are all screwed!’ OR it could be taken as ‘national promising tax cuts is irresponsible in the current financial situation, perhaps its better to stay with a party who has “successfully” run the economy so far.”

    I say “successfully” because that also needs to be taken in context of the economic situation.

    But think about it from the point of view of an ordinary, non economist, new zealand voter. I think this could actually make things difficult for National, who will likely be wanting to cut back spending more than Labour, and people won’t like it.

  • “I’m referring to the full PREFU, not your pre-EFU analysis.

    The PREFU shows a disastrous result for the country.”

    My analysis is post pre-EFU, although I could have written it beforehand and it wouldn’t have been any different.

    This is because tax cuts are a structural issue – and as today’s books didn’t tell me that the economy is structurally weaker my belief that tax cuts are affordable is no different.

    I would go out on a limb and say the raw numbers in today’s result is not disastrous for the country. It is the policy of spending exceeding income for the next decade is a cause for concern – as this implies that there is no medium term fiscal balance.

  • “But think about it from the point of view of an ordinary, non economist, new zealand voter. I think this could actually make things difficult for National, who will likely be wanting to cut back spending more than Labour, and people won’t like it.”

    I agree – I think that is the way many voters will take it.

    Fundamentally, voters understand the fact that more tax cuts will require spending cuts.

    I think National should try pushing the line that there are areas where spending can be cut without a large loss of service – put the associated loss in service to society in perspective. They have let Labour take control of the idea that “public spending is good”, they need to put it into perspective (or counter Labour’s spin with there own spin).

    If the public actually knows the full trade-off and what it means, then I would trust them to choose the right party.

  • goonix

    “I think National should try pushing the line that there are areas where spending can be cut without a large loss of service – put the associated loss in service to society in perspective. They have let Labour take control of the idea that “public spending is good”, they need to put it into perspective (or counter Labour’s spin with there own spin).”

    Exactly.

  • “Exactly.”

    Glad to see we agree on that issue.

    Fundamentally, Labour has spun the issue of “the goodness of public spending” to hell and back. I don’t understand why people go on about National being the party of spin – when Labour is also filled with a bunch of overt propaganda.

  • goonix

    “But think about it from the point of view of an ordinary, non economist, new zealand voter. I think this could actually make things difficult for National, who will likely be wanting to cut back spending more than Labour, and people won’t like it.”

    I don’t agree with this though. I think the average voter will see ‘negative’ press for the economic situation and blame the incumbent. Getting at what Matt was saying earlier re: spin, if National could successfully spin tax cuts as a good way of stimulating growth (and more particularly as a better way of stimulating growth than pumping it through the wasteful Govt sector) they could politically cash in on it.

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