May 30, 2019

Increased government spending to drive economic growth

Increased Government expenditure and stronger investment in the economy are expected to drive economic growth to reach 3 percent by 2020 before decreasing to 2.4 percent in 2023.

The Budget Economic and Fiscal Update 2019 confirms what we have suspected for some time, that the economy is experiencing a slow down since mid 2018. GDP growth has decreased from around four percent in 2016 to 2.8 percent in the year ended December 2018. In the Budget Economic and Fiscal Update 2019 the Treasury has signalled this slow decline will stabilise through increased government spending, favourable monetary policy and increasing investment in the economy.

Treasury forecast that the GDP growth rate will pick up over the remainder of 2019 and will peak at three percent in 2020.

The impact of the increased government expenditure is illustrated by the increase in the forecast GDP growth rate since the Half Year Economic and Fiscal Update from December 2019.

Source: Budget Economic and Fiscal Update 2019

The government will support GDP growth through a 4.2 percent increase in government spending in 2019/20. Treasury believe that this will result in a 0.8 percent boost to GDP growth.

After 2019/20 government spending will grow at a lower rate but will continue to support GDP growth through increased investments.

The increased government spending will induce additional expenditure across the whole economy. Despite initially creating capacity pressures the Treasury believe that increased spending will result in stronger domestic demand that will promote business investment and will contribute to higher wages and increasing prices.

Looking further than 2019/20 as government spending levels out economic growth is expected to fall to 2.4 percent by 2022/23. 

An increasing population has helped to drive the recent strong GDP growth and enabled New Zealand to weather the global financial crisis. In the three years to 2018 growth in the working age population was responsible for two thirds of GDP growth. The forecast decline population growth will be caused by a fall in immigration. Net migration over the next four and a half years is expected to fall by 50 percent compared to the last four and a half years. The Treasury forecast that the migration rate will continue to fall after peaking in 2016. 

Source: Budget Economic and Fiscal Update 2019

Despite the last Statistics New Zealand release Treasury forecasts are for unemployment to decline to 4 percent by June 2020. Beyond this are government spending remains level the unemployment rate will begin to trend upwards to 4.3 percent.

Source: Budget Economic and Fiscal Update 2019

Good news for most working New Zealanders is that the tight labour market with low unemployment will cause wages to grow.

Across the forecast period to 2023 wage growth is expected to increase by an average of 3.4 percent. When the growth in wages is adjusted for inflation (which is forecast to be around two percent across the forecast period) the real wage growth is expected to be stable at around 1.4 percent over the period. This sits slightly above wage growth in recent years.  

Increasing wages should drive an increase in household consumption, however an increase in spending due to higher wages will be offset by the forecast slow down in migration and continuing increases in house prices, although these will not be to levels seen in recent years.

The news for first home buyers is looking more positive than in recent years despite a forecast for increasing house prices over the period to 2023. As already noted, reduced immigration will ease pressures on house prices as there is less competition for houses. This will partially be offset by the recent announcement by the Reserve Bank to reduce the Official Cash Rate that cause most major banks to reduce their interest rates. 

The Government is also continuing to invest in building more houses which will increase the supply of houses available. Treasury forecasts support an acceleration in residential investment. 

The ability of the construction sector to meet these forecasts will be constrained given the skill shortages and other well publicised capacity constraints that the sector faces.  

Finally, increased business investment is forecast to underpin productivity growth. Despite business confidence in recent years Treasury forecast that business investment will accelerate in the second half of 2019 driven by the increased government spending. Business investment will continue to increase, peaking at a four percent increase in 2021 before easing as government spending fades.  This increase in spending will cause businesses to increase investment to expand capacity given the tight labour market with four percent unemployment and wage growth. 

Labour productivity growth has been assumed to increase by an average of 0.9 percent over the forecast period. This is an important development given the limited productivity growth experienced in recent years.