The Kākā by Bernard Hickey

TL;DR: The Ministry for the Environment (MfE) is looking at a ‘carbon dividend’ scheme that would recycle cash from the Emissions Trading Scheme (ETS) back into the pockets of consumers. That would be popular at a time when many are struggling with living costs, especially if it was done with a simple equal cash payout to residents.

But such a policy would also be inflationary and work against the emissions reductions aims of the ETS, given many consumers would buy more emissions-creating goods and services with the cash.

In my view, a much better alternative would be to recycle up-front an equal emissions rebate to residents as emissions-reducing vouchers or spending that effectively ‘buys’ even more emissions reductions through, for example, bigger discounts on public transport, electric bike discounts, solar panel installation vouchers and discounted energy-efficient appliances and lights. It would also be much better than spending up to $23.7 billion or $4,740 per resident on emissions credits overseas over the next six years, which is the current plan to meet our international agreements (See more detail and analysis on this below the fold)

Elsewhere in the news today (See more below the fold)

* most expect the RBNZ to hike 25 basis points to 5.5% at 2 pm;

* the RBNZ won’t say whether it paid a ransom to hackers;

* Chris Hipkins says Labour may move tax brackets once inflation has cooled;

* National is using AI to create images of nurses and robbers for its attack ads;

* Transpower has warned of possible blackouts this winter, despite full hydro lakes; and,

* climate scientists estimate 2 billion people live in areas of the world that will be uninhabitable by 2100 with the currently-expected 2.7 degrees celcius of global warming.

Usually, I put in a paywall for paying subscribers at this point in the email newsletter and lock off the podcast above from free subscribers. But I want to experiment until the end of June with publishing everything to everyone immediately to see what happens with subscription rates and email opening rates. I want to thank paying subscribers in advance, who are still the only ones able to comment and get access to our exclusive chat section and webinars. Join our community by subscribing in full to support my journalism in the public interest about housing unaffordability, climate change action and poverty reduction.

Recylce ETS cash into emissions cuts here vs overseas

I get it. The idea of getting a cash ‘refund’ in the hand feels good and even fair in a ‘cost of living crisis’, especially if it was an equal cash return that effectively saw richer petrol and diesel buyers subsidising the payouts to poorer drivers who haven’t bought so much petrol. ACT and the Greens have both supported so-called carbon dividends in different forms at different times.

It’s also advocated by those who advocate for a hard-line form of the ETS that includes all emissions and simply squeezes prices higher until we hit our targets. Canada has a carbon dividend where up to 17% of revenues from a carbon tax are paid back as an annual cash dividend of C$193.50 (NZ$230) per adult and C$56.50 (NZ$67) per child.

Yesterday, Ian Llewellyn and Oliver Lewis reported for BusinessDesk-$$$ and via FarmersWeekly an MfE spokeswoman saying the government was ‘exploring a range of tools to address the distributional impacts of climate change and climate change policies’.

“One of the tools being explored includes the possibility of a mechanism such as a carbon dividend,” she said.

“However, analysis is still in the early stages and no government commitments have been made.” Ian Llewellyn and Oliver Lewis reported for BusinessDesk-$$$ and via FarmersWeekly

So how much could any cash handout be?

The Government set up its Climate Emergency Response Fund (CERF) in 2021 to spend all the proceeds from the ETS, which at that point were estimated to be $4.5 billion from 2022/23 to 2025/26, on measures to reduce emissions and adapt to the effects of climate change. However, the failure of an ETS auction this year because of Government changes that undermined confidence in the market has cut expected proceeds by $2.7 billion. It is being topped up with $1.7 billion of borrowing and received $605.8 million in savings back from past allocations, which means it is about $400 million smaller.

Currently, after $1.9 billion of spending in Budget 2023, the fund has about $1.4 billion left for spending in Budget 2024, along with any revision to ETS forecasts due at the Half Yearly Update due in December. There may also be an update at the the Pre Election Fiscal Update (PREFU) some time between September 18 and September 29. Assuming no change to the ETS revenues, that would leave about $280 cash per person next year, if that’s the way the Government or Opposition wanted to play it at this election.

But what about over the longer run?

More broadly, a big climate liability is building up for Aotearoa to pay because we are behind the trajectory needed to meet our Paris agreement commitments to reduce emissions by 30% from 2005 levels by 2030. It’s getting close now.

Treasury has already estimated the Crown may have to spend between $3.3 billion ($660 per person) and $23.7 billion ($4,740 per resident) on emissions credits overseas for Aotearoa to meet our Paris committments by 2030, depending on the carbon prices at the time, which Treasury estimated at between $44/tonne to $224/tonne.

The task would seem simple: work out what is the cheapest way in costs per tonne to ‘buy’ emissions reductions domestically in the next six years and just keep buying until our emissions reductions needs are met, or they can actually be bought cheaper overseas. There are currently no viable, liquid, internationally approved markets for such credits that we could access.

At the moment, we’re just punting that something turns up in the next six years, or that we can somehow buy approved credits for forest planting in Vanuatu and the likes. Although we’re also competing against the likes of Switzerland, which has been doing this sort of climate diplomacy for over a decade and we have just a handful of such diplomats.Treasury has estimated our emissions deficit could be between 88 million tonnes and 114.1 million tonnes by 2030. Just to be clear: the current Government and Treasury position is that voters won’t tolerate much, much higher petrol prices or regulatory interventions to squeeze down emissions. It’s a political view. It doesn’t seem to give the public much credit for debating and deciding the issue. Although it does make life easier for politicians who don’t like arguing in favour of painful things, or more importantly, trying to get elected in the face of opponents screaming that the other lot wants to hurt you, the hard-working-kiwi-bloke-family-taxpayer-double-cab-ute-driver-with-a-boat-in-the-driveway.

The base assumption is we’ll have to go overseas. That’s because we’ve done it before. The Government and various companies bought 90 million tonnes of emissions credits linked to Ukraine and Russia from 2013 to 2015 for as low as 20c per tonne to meet our Kyoto committments, which was the agreement before the Paris Agreement. It turns out the credits were essentially fraudulent and over NZ$200 million went straight to interests thought to be connected to the Russian mafia. This was exposed in a report by Geoff Simmons and Paul Young for the Morgan Foundation in April 2016. The EU stopped using the credits in 2012, but New Zealand kept buying and eventually became the world’s biggest purchaser.

So this assumption is at best a hail Mary and at worst illegal and unethical. We would be much better off either using the ETS to squeeze emissions down through the crude incentive of price, or we could simply begin ‘buying’ emissions reductions at home with a variety of policies and incentives that just keep buying at prices up to and including $100/tonne until we hit our targets.

So how big could ‘vouchers’ be? And what could they be spent on?

In theory, if the ETS was used solely to squeeze our emissions down, there would be a much, much higher carbon price domestically, which would mean a bigger ‘carbon dividend’, up to as high as $4,740 per person, if ETS revenues were squeezed up to the equivalent we were willing to pay to buy credits overseas.

A much better idea would be to use the amounts ranging up to $23.7 billion to reduce emissions domestically, rather than scrambling to compete against Switzerland to buy credits from Vanuatu that don’t exist yet and haven’t been approved yet. In the next seven years.

Thinking about the problem from the point of view of ‘buying’ emissions reductions here creates the tantalising prospect of actually saying to individuals, families, companies, councils and government departments that they should work out how to reduce emissions, work out what the cost would be, and then offer those tonnes up to the Government for cash. That would imply a quite extensive process of proving a particular action or technology would reduce a certain number of tonnes of emissions, and then proving it had been done.

Show us the list. You’ve built a list right?

A better, faster and more believable way would be for the Government to work out what actions or purchases produce the most emissions reductions the fastest, and for the cheapest amount of money. Some of those interventions would require some Government investment, say for example in reconfiguring roads to walkways and cycleways from roadways. Some would be costless in a financial sense in that they did not involve a specific investment, but created a non-financial cost for some, such as lengthening commuting times.

There should be a long list built up within and outside Government that ranks the scale of the emissions reductions, the speed and the cost of obtaining them. We can get a sense of how this is being done up and down the country by looking at the weekend announcement from the Government it would ‘buy’ 800,000 tonnes of reductions per year from NZ Steel for $130 million or an effective cost of $16.20 per tonne. That seems a fair price given we have been looking at spending up to $224/tonne overseas.

We also know the Government decided not to go ahead with the ‘cash-for-clunkers’ scheme earlier this year, partly because the $569 million cost to get dungers off the road would have only generated up to 4,500 fewer tonnes of emissions, meaning the ‘cost’ of the reductions worked out at around $126,444 per tonne. That’s a bit too high.

So what is in between? How many tonnes would I save by cycling everywhere instead of using a car? How many tonnes are saved per electric bus operating in a schedule in, for example, Auckland. I’ve yet to see a list from within Government, but it’s about time we all built these lists. The Government would then be in a position to save money in the long run by spending less on reducing emissions here to meet our Paris targets, than the cost of up to $23.7 billion buying credits offshore.

If for example, the Government can ‘buy’ tonnes of forgone emissions from NZ Steel at $16.20/tonne, why can’t it ‘buy’ my forgone emissions from commuting. I’ve worked out I’ll save about 3.3 tonnes a year of emissions by not commuting by car or flying around the country for work. In theory, I could ‘sell’ that change in my behaviour to the Government for the next six years to 2030 for $320 for my forgone 19.8 tonnes, assuming a $16.20 price. That’s probably too low a price, given carbon prices here got up to almost $90 a tonne late last year, before crashing to $53 now. At $90 a tonne, I’d be getting $1,782 for my six years of behaviour. That’s becoming meaningful.

Rather than checking on me every year to prove I’m not driving and flying, another way is to simply give me a voucher for $1,782 to reduce the cost of buying an electric bike. Or swapping an electric bike for an old dunger of a car I know is worth less than $1,782, which most of them are.

It’s amazing what we’ll do for a ‘deal’

This is where these sorts of vouchers become useful and fair. They can be used to ‘buy’ a reliable amount of emissions reductions that don’t have to be verified after the fact, and the money can’t be used to just go out and buy a bigger car with a bigger engine, or a holiday that adds tonnes of emissions.

The purists would say the ETS price or a carbon tax would do this much more simply and cheaply. My incentives would be to stop driving and flying to save money because the ETS or carbon tax component of the cost reached a threshold that forced me to change. Fair enough. The trouble is that means those who can least afford to pay and can’t change suddenly have to pay much more. It also increases inflation and does nothing to create a just transition that spreads the costs from poor to rich and from old to young.

Sometimes we also like to collect a voucher to save money. There’s something about the quest for discounts that harnesses some behavioural economics juju. E-bike vouchers and public transport discounts have been effective overseas. But it’s surprising to me that we all haven’t tried to work out the costs and benefits of reducing our emissions, collectively and personally, in a way that reduces the long-run cost by reducing the long run liability.

Where’s the list? Perhaps we should start building one here to suggest the Government gets on with using to pick off the cheapest, biggest and fastest emissions reductions to at least slash our emissions and close our Paris deficit by the required 100 million tonnes over the next six years.

News elsewhere today

Te Pūtea Matea (The Reserve Bank) is refusing to say whether it paid a ransom to hackers to get back information stolen from it during a hack, Tom Pullar Strecker reports this morning for The Post-$$$. We’ll get a chance to ask Governor Adrian Orr more at a news conference I’m attending in Wellington at 3pm today.

Most economists expect the central bank to hike the OCR 25 basis points to 5.5% at 2pm, although three of 18 surveyed by Bloomberg see a 50 basis point hike as possible, which would focus attention on whether Budget 2023 forced a bigger move

PM Chris Hipkins said late yesterday a re-elected Labour Government would look at re-setting tax brackets, but only after inflation had cooled (Stuff). Meanwhile, CTU Economist Craig Renney has estimated National’s planned move to reverse tax bracket creep could cost over $8 billion over four years. That would be inflationary.

Jenna Lynch reported last night for Newshub the National Party has admitted using artificial intelligence (AI) to create fake photos for its political attack ads including nurses, robbers, and crime victims, and leader Christopher Luxon didn’t know about it. Luxon initially said he wasn’t sure and then tried to brush it off with a joke about Vin Diesel, who he said he modelled himself on. A National spokesman defended the use of the technology as innovative and said the party would use it responsibly.

Transpower warned yesterday of the potential for blackouts this winter despite hydro lakes being nearly 100% full, pointing to sharp rises in demand at peak times in the morning and evening and the reluctance of gentailers to fire up their gas and coal generators at short notice when wholesale prices are lower.

Somehow, the Electricity Authority judged the current market as working fine for consumers in a report last week. The Government is also at least a decade away from starting to build a hydro-battery at Lake Onslow for a dry year. And this is a wet year.

A paper published in Nature overnight calculated that up to 39% of the world’s population or well over 2 billion people could be living on land that would currently be considered uninhabitable because of heat and humidity by 2100, if as currently expected, climate change increases temperatures by around 2.7 degrees above pre-industrial levels. They’re about 1.1 degrees above those levels and could touch 1.5 degrees higher some time in the next five years.

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: Stronger-than-forecast net migration and population growth looks set to make Labour’s last Budget before the election on October 14 more austere and detract more from inflation than most believed from a first look at last Thursday’s Budget 2023.

The implications for the economy, residential land prices, interest rates and Government borrowing would be profound if net migration keeps pounding along at a rate of over 100,000 per year through 2023 and 2024, or even higher if a National/ACT Government further loosens visa settings and tightens spending after the election.

Other news briefly in our political economy this morning

* Auckland’s City Rail Link is unlikely to open until 2026, 18 months later than expected just a few months ago;

* MBIE pulled a plan to tighten fire rules for infill housing just a few days before the Loafers Lodge fire;

* Demand for food parcels continues to surge in Auckland, Wellington and Christchurch, with insufficient supplies at food banks to cope;

* NZ Bus and Go Bus have recruited 559 new drivers from Philippines, India and Fiji since November, halving the shortage and encouraging schedulers to add back routes and services cancelled since Covid;

* Big equity losses loom for owners of flood-hit homes in Auckland;

* New Zealand advertisers paid Facebook NZ$196 million last year, but Facebook NZ shuffled most of the money through Ireland, meaning it paid just $1 million in tax here last year.

Usually, I put in a paywall for paying subscribers at this point in the email newsletter and lock off the podcast above from free subscribers. But I want to experiment for the next month with publishing everything to everyone immediately to see what happens with subscription rates and email opening rates. I want to thank paying subscribers in advance, who are still the only ones able to comment and get access to our exclusive chat section and webinars. Join our community by subscribing in full to support my journalism in the public interest about housing unaffordability, climate change action and poverty reduction.

Why Budget 2023 is more austere than it first appears

The current view in political and financial circles is Budget 2023 was bit more stimulatory for inflation and interest rates than expected, but is unlikely to be called out tomorrow too brutally by Te Pūtea Matua (Reserve Bank) Governor Adrian Orr as the main reason for any further tightening of monetary policy.

There are other forces at work to share the blame with, including stickily-high domestic profit margins, cyclone spending and wage inflation that could see the Reserve Bank hike the OCR as much as 50 basis points to 5.75% at 2pm on Wednesday. Some predict another one or two hikes to a peak of 6.0% later this year.

But a closer look at the per capita measures of Government spending and investment show a much tighter and more austere approach is being adopted, especially now our population is growing again at almost 2.5% per annum. If the Labour Government or a National Government successor carries through with this effective tightening of fiscal policy, that creates an imminent risk of new infrastructure shortages, transport congestion, house price and rent inflation and more waiting lists at schools and hospitals.

This austerity would however be great for driving down wage inflation and interest rates, which would turbo-charge growth in residential land prices, especially if a new National/ACT Government brings back interest deductibility for landlords and slashes the bright-line test for landlords’ capital gains back from 10 years to two years. Faster population growth than Treasury is forecasting would also drive the Budget into surplus faster and reduce borrowing, especially if National/ACT loosen migration settings more than Labour already has.

This is not what financial observers currently think or how the political narrative is being shaped right now, but that’s only because either most believe Treasury’s forecasts for a reversion to the mean for net migration of around 40,000 later this year from a current run-rate of over 100,000 per year, or have not thought through the implications of it being too low.

If migration keeps surging or even stays high for the next two years, nominal GDP would grow faster, wage inflation and mortgage rates would be lower and the Budget would return to surplus faster. But I would avoid the Southern motorway and take out some private health insurance if you can.

Stimulus per person is worth watching

The overall effect of the Budget was slightly inflationary in the next year or so, but detracted from growth over the full four-year forecast period, as this chart shows. It led to economists estimating the Budget might add 25 basis points to the OCR.

But a closer look at the infrastructure spending profile and the effects of strong migration mean there’s a per-capita slowdown coming, as well as new infrastructure and housing pressures as the population keeps growing four times faster than official forecasts, let alone the (non) planning for infrastructure.

That starvation of spending in the long run, on both capex and operational spending is reflected in the net debt track (astonishingly and criminally) being forecast to fall below 10% of GDP by 2036/37.

Westpac NZ’s economists have done an interesting job this note of pointing out what real government consumption per capita will do when accounting for Treasury’s forecasts. Westpac sees stronger growth, so that would steepen (downwards) the per spending per capita to pre-Covid levels in the wake of the Bill English zero budgets era.

Westpac questioned whether the Government would be able to maintain this stringency, given the pressures that will arise on infrastructure from strong population growth.

While the Budget projected a return to modest surpluses in later years, these forecasts assume a high degree of restraint in spending on government services in the years ahead. The Treasury itself notes that this projection “is a significant departure from previous trends, particularly given population growth will likely add to demand.” Indeed, using the Budget forecasts of net migration (which are substantially lower than our own), we estimate that this implies a 9% fall in government consumption per person, drawn out over five years. Westpac NZ economists.

News elsewhere this morning

Auckland’s City Rail Link is unlikely to open for the public until 2026, which is 18 months later than indicated only a few months ago, Bernard Orsman reports for NZ Herald this morning, citing an interview with CRL’s CEO Sean Sweeney.

MBIE withdrew proposals to double the toughness of fire regulations for new forms of medium density infill housing just days before the Loafers Lodge fire after the construction industry couldn’t agree on how to do without increasing costs, Phil Pennington reported yesterday for RNZ.

Food bank demand continues to surge, with Wellington City Missioner Murray Edridge citing a tripling of demand since Covid, while Dave Letele says his Brown Buttabean food bank in Manukau is unable to cope with demand, and Christchurch’s food bank is now having to limit food parcels to one every five weeks, Newshub’s Rachel Sadler reported last night.

The jump in net migration is beginning to take effect. The national bus driver shortage has almost halved and operators are now looking to restore full timetables. Kinetic, which owns NZ Bus and Go Gus, announced yesterday had recruited 559 new drivers across Aotearoa from Philippines, India and Fiji since November, including 327 for Auckland, 82 for Wellington, 57 for Tauranga, 31 for Hamilton, 50 for Christchurch, and 12 for Dunedin. Auckland Transport (AT) said its driver shortfall had nearly halved to about 295 and it expected to get back to operating reliable services by the end of September.

Big losses loom for the owners of flood-affected properties in Auckland, with those trying to sell as-is where-is bracing for huge reductions in value or their properties being unsaleable, as they wait for confirmation of any buy-backs from the Government, 1News reported last night.

Facebook is doing fantastically well from its New Zealand advertising customers, who paid $196 million for services through Facebook NZ to its lowly-taxed Irish subsidiary last year, but paid just $1 million in taxes to our Government, Daniel Dunkley reported last night for BusinessDesk-$$$.

Quote of the day

‘Get ready for the FOMO’

“There are signs that house prices are bottoming out on average around the country and very soon people are going to start wondering which locations have the greatest potential for price gains.” Independent economist Tony Alexander in his property insights report out this morning.

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: The Government has adopted some of the US-style ‘Green’ industrial policy that is proving so effective in ramping up emissions reductions there, announcing the spending of $140 million from the Climate Emergency Response Fund to pay for almost half of a new electric arc furnace at NZ Steel’s Glenbrook plant.

In an immediate response, National Leader Christopher Luxon accused the Government of corporate welfare and said NZ Steel’s Australian parent BlueScope should have paid for all of the furnace, which will cut Aotearoa’s emissions by 800,000 tonnes a year — the equivalent of the emissions from all of Christchurch’s 300,000 cars and a full 5.3% of the country’s entire emissions reduction budget for 2026-2030.

But, in my view, Luxon has again fallen into Labour’s trap, prompting a kneejerk reaction that makes him seem extreme and captured by NZ Initiative views, given NZ Steel has no need to reduce its emissions, which are exempted from having to be paid for in the Emissions Trading Scheme, and has said it would shut down Glenbrook if it was forced to join the ETS, which is the assumption implicit in Luxon’s challenge.

This is money well spent and completely in tune with the pivot globally to using Green Industrial policy to urgently cut emissions.

Paying subscribers can see more detail and analysis below the paywall fold and in the podcast above, which includes the audio of my questions and answers to PM Christopher Luxon, Chris Hipkins, Energy Minister Megan Woods and Climate Change Minister James Shaw about why climate spending is limited by a fiscally-neutral stance, what more could be done to ‘buy’ cheap emissions elsewhere in Aotearoa, rather than spending billions on overseas credits as is currently planned, and whether the spending saved Glenbrook from closure. I have now opened this up for public reading, listening and sharing after asking my paying subscribers. Many thanks for their support.

$140m well spent to cut emissions massively

The Government announced yesterday it would spend $140 million of Climate Emergency Response Fund (CERF) money to pay for almost half of a new electric arc furnace at NZ Steel’s Glenbrook mill. The furnace will use scrap metal that would otherwise have been sent overseas and cut emissions by 800,000 tonnes at an effect cost of $16.20 a tonne, which is a fraction of the current (very low) price of $55/tonne) and delivers 5.3% of the emissions reductions needed by the entire country in its official budgets from 2026-2030.

“When I said I wanted us as a government to focus on investing in the things that can make the biggest difference, this is the sort of thing that I had in mind. It is incredibly good value for money.

“Working alongside industry, co-investment from government can make a big difference. It can significantly reduce our emissions. It can ensure that we are creating new jobs and protecting existing jobs, whilst also protecting vital supply chains for our overall economy.” PM Chris Hipkins speaking at the announcement of the arc furnace investment at Glenbrook, which Lynn and I attended.

This is the sort of Government-led investment intervention now championed by US President Joe Biden in his game-changing Inflation Reduction Act passed by Congress last year, which invests over a third of a trillion US dollars to subsidise catalyse private investment in renewable energy infrastructure to reduce emissions dramatically and fast. The European Union and others are now playing catch-up, planning their own subsidies for emissions reductions that drop the previous orthodoxy that prioritised fiscal rectitude and debt reduction over ‘corporate welfare’ or subsidies to reduce emissions.

The self-limiting approach of NZ’s ‘fiscally neutral’ stance

Aotearoa is still pursuing a ‘fiscally neutral’ approach to climate policy that means the CERF is fully funded from Emissions Reduction Scheme revenue, rather than using the Crown’s balance sheet, as it should in my view if any Government wants to treat climate change as an inter-generational issue. But this announcement signals a welcome ramping up of the Government’s ambitions, albeit still within the ‘fiscal envelope’ prescribed by the CERF and its Government Investment in Decarbonising Industry (GIDI) Fund.

Treasury estimated in this Climate and Fiscal Assessment report (page 80) in April this year the Crown could have to spend between $3.3 billion and $23.7 billion on credits overseas by 2030, depending on credits prices ranging from NZ$41/tonne to NZ$227/tonne. That means ‘buying’ credits domestically for any less than those prices will reduce Aotearoa’s future liability. So why isn’t the Government doing a lot more of this sort of bulk-buying of domestic emissions reductions right now? It has limited its response through its ‘fiscally neutral’ approach that restrains the size of the CERF to equal ETS revenues.

I asked Hipkins about this fiscal envelope approach and potentially expanding the ‘purchase’ of emissions reductions locally, instead of buying credits overseas. That could include ‘buying’ credits by subsidising e-bike use, buying electric buses, converting roads to cycle and bus lanes, and walkways. In response, he said:

“I wouldn't rule out us making further investments in GIDI-type programs in the future.” Hipkins

Luxon steps into Labour’s trap, yet again

National leader Christopher Luxon yesterday accused the Government of paying ‘corporate welfare’ to NZ Steel’s ASX-listed Australian owner, BlueScope Steel, saying BlueScope could have paid the full $300 million cost of the furnace itself.

“I thought that announcement was outrageous, actually, because it just says to me that this is a Government that's got its priorities all wrong.

"Just this week, this Budget couldn't find money to actually help support Kiwis going through a tough cost of living crisis. But all of a sudden they can find $140 million as a subsidy paid for by Kiwi taxpayers and give it to a large foreign, multinational, profitable company.” Christopher Luxon told reporters yesterday afternoon, via Newshub.

So what about farmers and Air NZ too?

Luxon, a former CEO of Air New Zealand, added he was on the side of the “Kiwi battlers” who were against subsidising the furnace of a profitable multi-national company.

So does that mean Luxon is against the Government allowing companies who compete with the rest of the world and are profitable from keeping their free credits under the existing scheme? Would that include agricultural companies, such as Fonterra? Or Rio Tinto, which employs thousands in Southland at its Tiwai Point aluminium smelter? And how about Air New Zealand, which gets free credits for the fuel it uses on international routes, competing against other airlines that don’t have to buy credits. Surely, Christopher Luxon knows about Air New Zealand’s profitable use of those free credits?

Apparently not, as he stepped into Labour’s trap with both feet yesterday afternoon (bolding mine).

"We really applaud what NZ Steel is doing here. I've gone and met with the CEO and the management teams and saw the site myself last year. I really like the direction of where they're going, but they are quite capable of stomaching and fronting up that $140 million themselves to get that transition away," he said.

"That transition away will be good for them in the long term because they'll end up actually not having to deal with a higher carbon price down the road and it'll be better for them profitability-wise." Luxon.

That’s not what NZ Steel CEO Robin Davies and BlueScope Steel CEO Mark Vassella said at the event announcing the deal that Lynn and I attended yesterday. They said the investment was not viable without the subsidy and that the alternative of being forced into the ETS would also force the closure of Glenbrook because steel makers overseas don’t have to buy emissions credits.

So why didn’t Luxon know this or think through what he was saying? Surely he knew NZ Steel had no incentive to reduce emissions because of its exemptions under the ETS? His comments suggest he is ok with shutting down Glenbrook and favours pulling other companies into the ETS that are currently not there. Expect a ‘clarification’ in the next few days.

Luxon looks captured by the NZ Initiative’s purist approach on this, which is to argue that the ETS should be the only policy designed to reduce emissions and all emitters should be included and the price should be allowed to equilibriate to achieve emissions reductions. The problem with that is National has yet to announce a policy and is expected to be very unlikely to allow the inclusion of agricultural emissions, or those of internationally competitive emitters. His chief policy adviser is Matt Burgess, a former staffer at the NZ Initiative.

Elsewhere in the news this morning

Fire doors in budget accommodation towers locked, but approved

In local scoops this morning, Tom Hunt reports for The Post-$$$ that Loafers Lodge had just one working ground floor exit after the main front door to the 112-person-capacity boarding house was locked shut because of damage in the days before last week’s fatal fire.

Also, George Block reports for NZ Herald-$$$ that the twin Empire Apartment towers for students off Symonds Street in Auckland was approved as compliant by a building inspector despite Auckland Council concerns about its main fire doors being locked. Loafers Lodge was also approved for conversion to multiple rooms on its top floor in 2008 despite Fire and Emergency concerns about access to escape routes.

Elsewhere, Jamie Morton reports for NZ Herald this morning there are concerns about low Covid vaccination rates going into winter, with only a third of people aged 50 to 64 having received their second booster dose, while the rate for over-65s is just under 70%. This age group is where the bulk of hospitalisations and deaths to date are concentrated. The Government is not running high-profile vaccination campaigns anymore, given the political unpopularity of Covid restrictions.

The latest from China vs US

There was good and bad news in the wider geo-strategic conflict between the United States and China over the weekend. US President Joe Biden said he wanted to improve relations Reuters, despite an earlier G7 statement he signed accusing China of coercion and using non-market policies.

China responded by saying the United States was the ‘coercer’ and then banned US chips firm Micron from selling chips to the operators of China’s key infrastructure and security assets. Reuters

Also overseas, Ukraine admitted it had lost most of Bakhmut to Russian forces, although it also secured the use of US F16 fighter jets in a move seen tipping the balance in the long run in Ukraine’s favour, as former Editor of The Economist Bill Emmott points out here in his Substack.

Scoops and must-reads/watches elsewhere this morning

The WSJ has the scoop on how Jeffrey Epstein appears to have tried to blackmail Bill Gates.

This documentary on modern slavery in Aotearoa last night on TVNZ’s Sunday is compelling.

Useful Op-Eds elsewhere this morning

‘Treat the Health Crisis as an emergency’

Former Te Whatu Ora Chair Rob Campbell gave a speech to a Women in Health event on Friday night that was attended by 90 health professionals. The speech was reproduced online in full yesterday on NZ Herald in front of the paywall. Here’s a selection of quotes from the speech (bolding mine):

The simple point is that there is an emergency in our health services. The current leadership of that service from the Beehive, to the Ministry, to Te Whatu Ora and even more broadly through the sector is failing to grapple with the emergency or even to effectively triage its complex presentation. Only those actively engaged in the heart of an emergency can effectively respond. The job of leadership is to empower and support them. I think they mostly know that and genuinely want to do so.

But some of what they need to hear is not all that palatable to them. The Minister found an effective way of cutting off my own warnings, but it is damn sight harder to cut off the warnings from you here tonight, as good a proxy for the health workforce as there is.

I am not an expert in health services. I had a role and I have an active interest. I failed in the role at Te Whatu Ora. I should have been far more disruptive and insistent on inclusive disruption than I was. By “inclusive disruption” I mean the promotion of a positive radical change process (which Pae Ora:Healthy Futures is as an aspiration) by empowering key actors in support of the change. Radical positive change will not occur by decree, by central plan, or dare I say it, by standard public service management process.

One of the problems leading to emergency in our health services system is that too many people without genuine expertise and understanding, without genuine lived and worked experience, have had and retain too much influence. Too many consultants and officials and politicians (and yes, board members) who think they know best constructing plans for others to follow. Some of these are elegant and at some level many are sound and aspirational. But few are grounded in current genuine experience.

 Make immediate decisions on equity and other pay and sector funding claims which show good faith, intent and market realism. Many of these are simply delayed inevitable costs, which have significant indirect cost impacts anyway.

Fund this as Government would fund any other emergency of this magnitude.

Activate an immediate and substantially stronger shift in emphasis and funding to kaupapa Maori health and social services in partnership with Whanau Ora and Te Aka Whai Ora. Rob Campbell

National grandee unleashes on Luxon

Former National cabinet minister Philip Burdon has written a strong Op-Ed for The Post-$$$ on Christopher Luxon and the National Party (bolding mine):

National is in danger of being seen as an Auckland-centric urban-based party, unsympathetic to and out of touch with provincial and rural New Zealand.

National has got to take pride in its own ideological commitment to private enterprise and personal responsibility, aggressively articulating its own ideological beliefs and positive policy solutions, as opposed to bland and imprecise criticisms of the current Government's policies.

Complimentary to the policy debate is the perception of leadership, and clearly this is emerging as an increasing concern for National. To the surprise of many, Chris Hipkins has emerged as a credible and competent replacement for Ardern, respected and accepted by his caucus and the country.

Christopher Luxon has successfully united the National caucus after four leadership changes in five years, but has conspicuously failed to personally inspire the electorate. His continuous loss of popularity in the opinion polls, if it continues, will become a dangerous negative.

Chat of the day so far

Ka kite ano

Bernard

PS: And aren’t Lynn’s pics great!

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: The week’s news in Aotearoa’s political economy I covered via The Kākā for paying subscribers included:

* All the key details from Budget 2023 on Thursday, where I travelled to Wellington for the Budget lockup and asked Finance Minister Grant Robertson about just how inflationary the Budget was. I also asked Housing Minister Megan Woods about why Labour is only planning one more year of state house building by Kainga Ora. Here’s more in Thursday’s Budget special email;

* My analysis of how the Budget’s net stimulus was worth around one percentage point of GDP, which is expected to add around 25 basis points to the Official Cash Rate to offset the official cash rate. Here’s more in Friday’s email;

* My analysis of how the Loafers Lodge fire exposed the extent of Aotearoa’s housing and poverty crises, how they’re not being fully addressed, and why. Here’s more in Thursday’s email;

* My look at how the fastest surge in net migration in our history is now putting extra upward pressure on interest rates, rents, house prices and still-underinvested infrastructure in the short run, and will put downward pressure on wages in our long-run ‘churn and burn’ political economy. Here’s more in Tuesday’s email;

* Analysis and charts on Christopher Luxon’s decision to rule out National governing with Te Pāti Māori and to sound a Don Brash-like ‘one person, one vote’ alarm appears to be painting his party’s and his own support into a more extremist and less popular corner with fewer pathways to governing after the October 14 election. Here’s more in Monday’s email.

What we talked about on the ‘hoon’ (with two foxes watching)

In this week’s podcast above of the weekly ‘hoon’ webinar for paying subscribers at 5pm on Friday night, I talked with co-host Peter Bale in London and special guests (plus two foxes loitering curiously in Peter’s garden!):

* CTU Economist Craig Renney about Budget 2023 and what the Reserve Bank should do when it decides on the Official Cash Rate again next Wednesday, where I’ll be travelling to Wellington again to ask Governor Adrian Orr questions in the news conference following the release of the Monetary Policy Statement.

* Founder of 2 Degrees and anti-monopoly activist (Monopoly Watch) Tex Edwards about the Government’s response this week to the Commerce Commission’s market study into building materials, and what any market study into banking should focus on;

* Mangawhai Pharmacist Lanny Wong (pictured below in a TVNZ Breakfast interview on May 1) from the Independent Community Pharmacy Group on the decision in Budget 2023 to remove the $5 prescription fee for all. I also campaigned against to remove the fee in this February email;

* Columnist for The Post-$$$ and Stuff, Josie Pagani, on National’s tone-deaf reaction to the removal of the $5 fee and Christopher Luxon’s problem with his (un)popularity.

The Hoon’s podcast version above was produced by Simon Josey.

Thanks to the support of paying subscribers here, I’m able to spread the work from my public interest journalism here about housing affordability, climate change and poverty reduction around in other public venues. I’d love you to join the community supporting and contributing to this work with your ideas, feedback and comments.

Other places I’ve appeared this week

My podcast for The Spinoff this week

Gone by When the Lunchtime Facts Change - In this week’s When the facts change podcast for The Spinoff, I talked about Budget 2023 with Toby Manhire here.

And here’s my preview of the Budget on TVNZ’s Breakfast programme on Thursday morning. The interview was done outside and a Kaka swooped and squawked over my head just as the interview was starting.

Chat thread of the week

I also host regular discussions on the Chat section of The Kākā for paying subscribers.

Here’s the most commented one this week:

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: Bank economists last night firmed up their forecasts for an Official Cash Rate as high as 6.0% before the election after judging Budget 2023 to be more inflationary and generating more borrowing than they expected.

Ratings agency Standard & Poor’s warned overnight the Budget could put Aotearoa’s AA+ sovereign credit rating under pressure, although it stopped well short of issuing any formal warning of a credit rating downgrade.

Budget 2023 was seen adding around one more 25 basis point hike to the OCR, which may (or may not) increase shorter-term fixed mortgage rates by the same amount. See more on that below.

Adrian Orr’s view on whether Finance Minister Grant Robertson was fiscally loose yesterday will be crucial next Wednesday when the Reserve Bank Governor is expected to unveil another 25 basis point hike in the Official Cash Rate to 5.5%, and say whether any further fiscal policy stimulus is forcing him to tighten even more.

Economists are now asking if the central bank will have to hike by 50 basis points next week, and/or do one or two more rate hikes in July or August. The Reserve Bank’s October 4 OCR decision and statement just 10 days before the election is now shaping up as a crucial event in our political economy. Median voters in the suburbs getting ready to vote as they re-fix their mortgages will be watching with extra interest.

Paying subscribers can see more detail, charts and analysis below the paywall fold and in the podcast above. (Updated. I’ve decided in advance to open this up to all because the Budget is such a big thing in the public interest. Thanks again in advance to the paying subscribers who support the journalism I do in the public interest on housing unaffordability, climate change inaction and poverty reduction.)

Elsewhere in the news overnight:

* National said it would put the $5 prescription fee back on and not extend subsidies for childcare to young couples with two year olds, falling into two of Labour’s traps set yesterday;

* Wellington Police arrested a resident of Loafers Lodge and charged him with two counts of arson over the fire that killed at least six of his fellow residents on Tuesday morning;

* Chances of a US debt default reduced overnight as Democrats and Republicans expressed confidence they could do a deal to lift the debt ceiling, which boosted global stock prices; and,

* Geopolitical tensions between China and Australia cooled overnight, with China removing a ban on Australian timber imports and talking about inviting its PM Anthony Albanese to visit China, which may increase the chances of a visit to Beijing by PM Chris Hipkins, possibly as early as July.

I also put these news items out in truncated form just after 6 am for paying subscribers via Chat on the Substack app, where the chat between subscribers (and me) continues. Download the app and upgrade to being a paying subscriber to join. Also, paying subscribers can comment in my weekly Ask Me Anything session at midday today, and join our weekly news roundup webinar we call The Hoon at 5 pm for an hour. It is released in recorded form as a podcast tomorrow morning.

Bank economists say Budget 2023 was more inflationary

Bank economists have firmed up their forecasts for two or three more official cash rate hikes to as high as 6.0% after Budget 2023’s inflationary stimulus and its bond borrowing programmes were higher than they expected.

Credit ratings agency Standard & Poors, but not Moody’s, also described the Budget as ‘fiscally expansionary’ and said it could “erode headroom for the sovereign ratings on New Zealand.”

Budget 2023 was seen adding around one more 25 basis point hike to the OCR, which may (or may not) increase shorter-term fixed mortgage rates by the same amount. My view is banks are currently competing hard for market share to revive lending growth, which may mean they hold back from hiking their discounted fixed mortgage rates in coming months, although floating mortgage rates would be more likely to be hiked if the OCR is hiked.

There’s a selection below of reaction from bank and other economists to yesterday’s Budget, which Treasury judged would be more inflationary in the next year, but would detract from inflation over the full four-year outlook presented in Budget 2023.

But first, here’s the Treasury’s comments and chart in the Budget Economic and Fiscal Update (BEFU) (pages 14, 59) below (bolding mine), showing the extent of the Government’s ‘fiscal impulse’ over the next four years. I’ve also included audio in the podcast above of my exchange with Grant Robertson in the Budget lockup news conference about whether the Government had worsened inflation and interest rate pressures. He downplayed the idea. I’ll ask Adrian Orr the same question in next Wednesday’s news conference in Wellington, which I’ll attend. I welcome any other questions you’d like put in the comments below.

The total fiscal impulse implies that, over the forecast period as a whole, fiscal policy settings are expected to be contractionary. This means fiscal policy settings will suppress aggregate demand and inflation pressure over the forecast period as a whole. However, fiscal policy settings are expected to be less contractionary than was forecast in the Half Year Update. Fiscal policy settings are expected to be expansionary in the 2023/24 fiscal year (1.7% of nominal potential GDP), meaning fiscal policy will be supporting aggregate demand and inflation pressure in that year. (Page 14)

A stronger fiscal balance forecast for 2022/23, relative to the Half Year Update, also exacerbates the difference between the two years, leading to a more positive impulse than would otherwise be the case. The fiscal balance is forecast to improve from 2024/25 and through the remainder of the forecast period, with a positive fiscal balance expected in 2026/27 (two years later than forecast at the Half Year Update). As a result, the fiscal impulse is forecast to be negative (contractionary) from 2024/25 and through the remainder of the forecast period. Treasury BEFU. Page 59

What the bank economists said last night

ANZ’s economists, who increased their peak OCR forecast to 5.75% from 5.50% earlier this week, said Budget 2023’s borrowing programme was twice as large as they expected and the extra 1% of GDP stimulus implied in the Budget had been estimated previously by Treasury as enough to cause a corresponding 30 basis point increase in the OCR to offset the inflation impact. Here’s their comment from the note (bolding mine):

“The additional fiscal stimulus represents more pressure on CPI inflation and therefore an upside risk to the OCR outlook.

“The RBNZ won’t have to wait long to bake today’s information into its outlook – the May Monetary Policy Statement (MPS) is next Wednesday. We doubt the RBNZ will go so far as to specify precisely what fiscal settings imply for the OCR, but today’s Budget certainly adds a touch more oomph to the demand pulse, working against the broad macroeconomic slowdown the RBNZ is trying to engineer to tame inflation.” ANZ’s economists in a note issued last night.

Westpac’s economists, who lifted their OCR peak forecast to 6.0% earlier this week, wrote:

“All up, the fiscal forecasts are more expansionary than we had anticipated. As a result, the Budget will add to inflation pressures in the short term.” Westpac economists in a note.

ASB economists said the Budget’s loosening made a 50 basis point hike next week more possible, as they wrote in this note (bolding mine):

“The RBNZ would not have been overjoyed with what has been revealed to it. According to the Budget 2023 fiscal impulse, the fiscal stance is expected to exert a considerably less contractionary impact on aggregate demand over the next few years than was earlier signalled.

“The worry for the RBNZ could be that this less contractionary fiscal stance will be less effective in cooling demand and inflationary pressures in the current environment of strong demand for government services in a still-high cost environment. The RBNZ seems highly likely to follow through with at least a 25bp hike in May. We don’t see fiscal policy settings as proving an obstacle to a higher OCR in the near future, and risks of a 50bp hike in May look to have increased after the Budget.” ASB Economist Mark Smith in a note.

BNZ’s economists lifted their OCR peak forecast to 5.75% from 5.50% by July after the Budget yesterday and BNZ Market Strategist Jason Wong said this in his morning note (bolding mine):

S&P fired a warning shot, noting that NZ must deliver stronger fiscal metrics than peers because of the external vulnerabilities, adding “downward pressure on the sovereign rating could eventuate if external metrics remain weak”. Twin deficits of 6.5% of GDP on the fiscal side and 9% for the current account is not a good position for a small country like NZ to be in.

Easy fiscal policy is set to work against the RBNZ’s endeavours to weaken domestic demand, adding to the chance of a higher peak OCR rate, and BNZ Economics added in an additional 25bps to its projections, now seeing two 25bps hikes taking the OCR to 5.75% in July.

Domestic rates were higher across the board, with OIS (Overnight Index Swap) pricing for August up 10bps to 5.79%, taking its gain for the week so far to 28bps. With next week’s meeting priced at 5.55%, the market sees a 20% probability of another 50bps hike, rather than the RBNZ settling for 25bps.  The swap curve showed further flattening pressure, with the 2-year rate up 17bps on the day to 5.29% and the 10-year rate up 10bps to 4.34%. BNZ Market Strategist Jason Wong in a note emailed to clients this morning.

The bottom line for Budget 2023 is the 17 basis points rise in wholesale interest rates and what bank CEOs will do about that

That 17 basis points of rises in the two-year swaps rate yesterday is the ‘meaning’ from Budget 2023 for median voters with mortgages about to be refixed ahead of the election on October 14. If banks choose to pass it on with higher fixed mortgage rates, then it will hurt Labour’s chances of re-election.

Perhaps ironically, the CEOs of New Zealand’s big four Australian-owned banks are now in the position to either ‘punish’ the Government by passing on higher mortgage rates to engineer a change of Government to one they might like better, or they can choose to keep Labour sweet ahead of a looming market study next year by not passing on the increases in wholesale rates and the OCR.

This is what ‘realpolitik’ looks like in our political economy dominated by a housing market with bits tacked on, where the political calculus revolves around the needs and feelings of median-voting young families with mortgages in the suburbs of the big cities and provincial towns. And it’s all because these median voters cannot kick their addiction to leveraged and tax-free gains on residential land, and therefore won’t (or can’t) choose the alternative of taxing those gains and having higher public debt toinvest more in public infrastructure and services, R&D and business investment that would improve our productivity, real wages, health, housing affordability and climate emissions, and reduce poverty.

Bank CEOs and median voters will decide what Budget 2023 means for the result on October 14

The net result from Budget 2023 for this relatively small group of around 100,000 voters of the last day’s ‘action’ in the political economy is that Labour pulled the following ‘rabbits’ out of the hat for them:

* the end of $5 prescription charges for all the medications they need for themselves and their kids;

* $130 a week worth of subsidies to put their kids into childcare for an extra year from the age of two, which might help them return to work earlier to earn more cash to pay for higher mortgage costs;

* possibly a little extra in Government contributions to their KiwiSaver for those parents who took paid parental leave;

* free bus and train fares for their kids aged up to 12, and half-price fares for those up to 25 with a community services card; and,

* possible extra subsidies to insulate and heat the homes they just bought;

* an extension for their kids in school of the free-lunch programme to the end of next year, estimated to be worth up to $60 a week for some parents.

On the other side of the equation, National fell into the traps Labour carefully laid yesterday by promising to:

* reverse the removal of the $5 fee;

* not discount bus fares; and,

* not extend childcare subsidies.

The danger for Labour and the hope for National is that:

* the Reserve Bank hikes the OCR much more than expected next week (50 bps rather than 25 bps);

* Adrian Orr hikes one or two more times before the election (the next OCR decisions are on July 12, August 16 with a news conference and October 4);

* Adrian Orr specifically blames a loosening of Budget policy by Labour for the hikes; and,

* the bank CEOs choose to pull the trigger to put Labour out of Government by passing on the rate hikes into much higher fixed mortgage rates.

A time for spectators and manifestos

Young renters, particularly single ones, are just spectators at this point.

They may be better off choosing to spend their time during the election campaign perusing job listings in Australia and the offers for Trans-Tasman flights on Grabaseat and Jetstar.

Unless Chris Hipkins and Grant Robertson choose the change the landscape by proposing in Labour’s manifesto a wealth tax and a massive inter-generational investment programme in climate-friendly and affordable housing and transport to reduce housing costs, cut emissions more deeply and slash poverty rates.

My current expectation is there is little-to-no-hope Hipkins will take those electoral risks in a political environment where MMP and low-target policies have locked Aotearoa into our ‘churn and burn’ economy of low public debt, low taxes, low investment, low productivity and low wages enabled by no capital gains tax, high migration, high house prices and high rents.

I look forward to hearing from you in the Ask Me Anything at midday and in the Hoon at 5pm.

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: The Labour Government has unveiled a couple of middle-class welfare policies in its last Budget before the October 14 election, which is on a knife edge and will be decided by a slither of median voters who will welcome $1.6 billion in spending on extra child-care subsidies and grants for home insulation and heat pumps.

Finance Minister Grant Robertson has tried in Budget 2023, his sixth as Finance Minister and his fifth ‘Wellbeing’ Budget, to walk a tightrope in the short-term between extra spending to win re-election, and a need to constrain fiscal stimulus to avoid adding inflationary and interest rate pressure to the economy.

In my view, Robertson and his new ‘boss’ PM Chris Hipkins, have probably done enough to avoid being tagged as reckless spending inflation-creators. But they have also done little to change the 30-year long trajectory of our political economy towards being a housing market with bits tacked on, where low wages, low investment, low taxes and low public debt are all designed to reward leveraged investment in residential land, rather than productivity-and-real-wage enhancing investment in infrastructure and real businesses.

Usually at this point in the email I insert a paywall, but have decided to open it up fully to the public and free subscribers immediately for listening, reading and sharing, given the public interest involved. I thank paying subscribers for their permission in advance and would welcome more paying supporters so I can keep doing this sort of public interest journalism on housing unaffordability, climate change inaction and poverty reduction.

The features of Budget 2023

Budget 2023 did produce a couple of rabbits out of the hat that will be hard for the Opposition to argue against and are focused firmly on the middle of the electoral spectrum, including:

* The expansion of early childhood education subsidies to two-year-olds from just three-to-five year olds ($1.2 billion over four years);

* Extending health homes subsidies for heat pumps, home insulation and efficient lights to an extra 100,000 homes owned by richer New Zealanders ($402.6 million over four years); and,

* Extra Government contributions to KiwiSaver savings for paid parental leave recipients ($19.6 million over four years).

The Highlights

A couple of new policies will be welcomed by poorer families struggling with education, transport and health costs, including:

* Extending the free school lunch programme until the end of 2024 ($325 million over four years);

* Removing the $5 prescription fee that stopped 135,000 people from collecting their prescriptions in 2021/22 and created extra demand for hospital care ($618.6 million over four years) (see my detailed piece on this from February);

* Providing free public transport for 5-12 year olds and half price transport for 12-25-year olds who get community services cards ($327 million over four years); and,

* Increasing the trust income tax rate to 39% from 33% from April 1 next year, which will raise $1.1 billion over four years, including 78% of trust income coming from 5% of trusts.

The Lowlights

Budget 2023 was again focused on the short-term and the political, rather than the long-term need to fix housing unaffordability, markedly increase emissions reductions and dramatically improve poverty levels. Those disappointments included:

* Extending Kainga Ora’s build programme by only one year to add a net 3,000 new houses, whereas Labour has previously specified multi-year build programmes that have delivered 11,830 net new state houses from 2018 to 2023;

* Just $120 million on extending vehicle charging networks, meaning New Zealand will continue to have the weakest electric car charging network in the world; and,

* the failure to plan to fill an infrastructure deficit of $110 billion and deal with future population growth with a further $110 billion of infrastructure spending.

The Cliffhangers

From a purely political point of view, Budget 2023 is an astute set of policies that will be hard for the Opposition to attack and create a couple of ‘cliffhanger’ policies that could expire if Labour is not re-elected, forcing National to say before the election whether they would cut policies most voters would support. That includes the extension to the end of 2024 of:

* the Apprentice Boost programme designed to help pay for an extra 30,000 apprentices;

* the free school lunch programme set up and expanded during Covid; and,

* Kāinga Ora’s state house build programme with an extra 3,000 net new homes.

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: The Loafers Lodge fire has exposed the extent of Aotearoa’s housing and poverty crises, just days before the Labour Government will unveil yet another ‘no-frills’, ‘just the basics’ and ‘bread and butter’ Budget aimed at keeping interest rates low and asset values high, rather than investing heavily to solve these twin crises.

Speaking on the eve of tomorrow’s Budget, Finance Minister Grant Robertson again emphasised his fifth Budget would continue to ‘strike a balance’ that prioritises low public debt and low taxes over the massive inter-generational investment needed to both rectify past under-investment that caused the crises, and to cope with population growth now running four times faster than our infrastructure planners are assuming. That choice to reduce debt, rather than invest, has already handicapped efforts to increase the housing supply.

Kāinga Ora, for example, revealed in a Cabinet paper from June last year that it had suspended plans to add net extra social housing after the middle of next year because it was unfunded. It quietly decided that it would sell its new builds into the private market after 2024 and had reversed plans for ‘whole of house’ heating and had stopped retro-fitting existing state houses for people with disabilities to save money.

Robertson said in his pre-Budget speech last week Aotearoa cannot afford the $220 billion of infrastructure investment needed to deal with past and forecast population growth of 0.5%. But he told me in a news conference on Friday the current investment plans and self-imposed rules to keep net public debt below 30% of GDP and to press down Government spending and taxes down towards 30% of GDP could handle population growth of around 2.4%.

The two statements are not compatible, in my view. The audio of our exchanges on these issues of infrastructure, debt, tax levels and migration is in the podcast above.

I argue below and in the podcast above this idea shared by both Labour and National that somehow New Zealand can fix our housing, poverty and climate crises and have the fastest population growth in the developed world, while also keeping taxes and public debt low, is magical thinking that is not sustainable.

Something or someone is going to crack, or escape, or fail, if they haven’t already. We are already seeing it with the exodus of staff from a burnt-out and collapsing health system, along with stressed renters moving to Australia for much-higher disposable incomes after rent and better prospects to buy a home. We are seeing it in the drip-drip-drip of official reports, surveys and advice that we are failing our most vulnerable people and our environment, including one just yesterday on the health of our children.

We saw it yesterday morning when a building designed as an office and converted into 94 rooms, most of which don’t have cooking facilities or bathrooms, caught fire and killed at least six residents. There are 11 more missing.

"I was on the top floor and I couldn't go through the hallway because there was just too much smoke so I jumped out the window.

"It was just scary, it was really scary, but I knew I had to jump out the window or just burn inside the building." Loafers Lodge resident Tala Sili via RNZ

Usually at this point in the email I insert a paywall, but have decided to open it up fully to the public and free subscribers immediately for listening, reading and sharing, given the public interest involved. I thank paying subscribers for their permission in advance and would welcome more paying supporters so I can keep doing this sort of public interest journalism on housing unaffordability, climate change inaction and poverty reduction.

Business as usual budgeting for an inter-generational polycrisis

So far, the response in real financial terms by the Government is business as usual: investigate the individual disaster, change some regulations and blame the residents and/or the landlord. I asked Robertson this morning if the Government was building enough social housing and whether it planned to ramp up investment dramatically in the Budget. He acknowledged it was not enough and said we should wait for the Budget. I don’t expect any increase in social housing investment beyond Kainga Ora’s plan to build a net extra 11,780 homes between 2018 and 2024 — of which it reported it had delivered 6,401 by the end of December.

Kāinga Ora currently has no funding to build more new homes from 2024 and Kainga Ora said in this June 17, 2022 Cabinet paper on its financial sustainability that it assumed it would not be building net extra homes from next year, because of increased construction costs and higher interest rates. It would instead focus on renewing its existing stock, unless it was given extra funding in the Budget 2023 funding round. We will see tomorrow if that suspension is confirmed. I asked Housing Minister Megan Woods about this and she declined to answer, pointing to the need to wait for the Budget.

Here’s the Kāinga Ora comments in the Cabinet paper (bolding mine):

“Our 2022-2026 budget sets a baseline for the organisation incorporating our existing commitments around: growth of approximately 6,000 net additional homes in FY23 and FY24 and nil growth thereafter reflecting current government budget commitments to public housing growth.”

“With Government commitment to funding new public homes currently ceasing in FY24, as a Board we currently are unable to commit to growth beyond this point. As such our 2022-26 budget modelling switches the capacity we have built in the market to a renewal, rather than growth, focus post FY24.

“On the basis that we currently have no access to funding for additional publichousing post FY24, to offset home and land packages we may acquire (through thereplace programme) or additional homes created through uplifts in density (throughthe redevelopment programme), our budget also reflects the sale of ~24,500 homesto the market including:

“High-value homes with limited redevelopment potential. Existing older homes.This would mean that while there will be a net-zero impact on public housingnumbers, there will be a net increase in housing overall for New Zealand. There isalso an opportunity that some of these older homes could be released as an affordable housing product.

“The approach we have taken to renewal in the budget is necessary from anorganisational perspective, as with lead-in times for our more complex projects oftwo or more years we are already starting to see projects for post FY24 comingthrough for approval, and without this or a commitment to growth we would need to consider dialling back capacity.

“This approach also means the organisation will be able to respond more quicklyshould funding be provided post FY24 for public housing growth (i.e. we will be able to quickly dial back proposed sales programmes which will offset growth under a renewal approach). Your support to get certainty on public housing growthexpectations through Budget 23 will be necessary for us to be able to readjust ourapproach.” Kainga Ora in a June 17, 2022 cabinet paper

What the Loafers Lodge fire says about Aotearoa

Very early yesterday morning, more than 90 of Wellington’s most vulnerable people had to scramble, crawl and jump for their lives to get out of an office building converted to rooms for rent at up to $240 a week, some without windows, and none with sprinklers. At least six, and possibly as many as 11 more, died trying to get out of a building on fire, clogged with smoke, and yet given a building warrant of fitness two months ago.

People who are mentally ill, homeless, alone, unemployed, on probation, under community orders and often estranged from whanau and friends. Some were Filipino nurses on temporary work visas and unable to find a proper home. Some were ‘501s’ living in rooms being paid for by the state, wrenched from whatever familial support they might have had in Australia and distrusted and despised here.

These are the people who keep falling off the edge of the public gaze in our political economy, pushed out to the homeless, chronically ill and vagrant margins of society by just-as-chronic housing shortages, a stressed-to-breaking-point health system and little-to-no disposable income.

"I've lived at Loafers for three years. That fire alarm has been going off for three years, at 12am, 3am, 5 in the morning and we ignore it." Loafers Lodge resident Aiden Tavendale via NewstalkZB

"There was a fire alarm went off at 12, and they go off all the time, usually it's a false alarm, somebody cooking toast or something.

"I actually went out on the balcony for that one because I've evacuated the building so many times for alarms, go outside, usually have a cigarette, two minutes later they usually get turned off. But then an hour later the alarm went off again and I wasn't going to leave my room but I though oh well, I'm watching my phone so I'll go and have a cigarette.

"When I left my room I could smell smoke in the hallway so I went to towards the kitchen and yeah, there was smoke coming down the stairwell so I just sort of lapped around our floor knocking on doors saying 'Everyone out, this one's real'." Loafers Lodge resident Simon Hanify via 1News

Last night the survivors of the fire slept in shelters, motels and in marae, if they slept. All their belongings are gone. They are there because our country has:

* built the fewest new homes for every 1,000 new residents in the world in the last 30 years; (See charts below)

* had the fastest rise in real residential land values in the world, along with the most expensive rents and homes relative to incomes in the world; (See charts below)

* the highest proportion of stressed renters in the world, with just over a quarter of renters paying more than 40% of their disposable income on rent (Stats NZ);

* 24,030 households on the housing register for social housing, more than quadruple the numbers registered as needing housing in 2017, and including 2,165 on the register in Wellington (HUD);

* state spending on housing subsidies of $4 billion per year, including $1.2 billion on state housing subsidies, $2 billion on the Accommodation Supplement and $800 million on emergency special needs grants to pay for people to stay in motels and boarding houses (HUD);

* 430,000 households receiving so little income for such high rents that they need the support of the Government in the form of the Accomodation Supplement and special housing needs grants (HUD); and,

* 480,104 households who needed to use food banks in March, up 165% from pre-Covid levels (NZ Food Network)

Twin crises laid bare

This is a moment when Aotearoa can see the results of our twin housing and poverty crises in the starkest and most brutal light. Politicians yesterday agreed on the need for inquiries into the fire and building standards, but the bigger question is whether this moment of clarity lasts and makes any difference. I personally doubt it.

They’re not median voters and have no public voice, so they can be ignored once the spotlight has shifted. They can and are often blamed for and sanctioned into living in this situation, with some politicians focused until yesterday on cutting their benefits and restricting their access to housing while charging them to get their medicines. The current Government has repeatedly ignored official advice to remove benefit sanctions, increase benefits by much more than they have done and to build much, much more social housing. Every time, it has said no because to do other wise would lead to a higher net debt trajectory and slightly higher interest rates, and therefore slightly lower residential land values.

Just after 2pm tomorrow, we’ll open up another ‘business as usual’, ‘bread and butter’, and ‘just the basics’ Budget that is focused on cutting down the size of publicly-provided services as a share of the economy to ensure there’s room for more tax cuts and to keep public debt and interest rates low. Budget 2023, promoted as a ‘no frills’ document, is already printed.

Making choices to keep the status quo

PM Chris Hipkins and Finance Minister Grant Robertson decided months ago on this approach, in line with years of adherence to the default long-run fiscal settings of low-public-debt-before-everything-else. They were egged on by an Opposition baying for less Government borrowing, lower mortgage rates and fiscal room for tax cuts that will help those on middle to higher incomes the most.

Yet 10% of our population are so poor and stressed they can’t afford a place to live or food to eat without Government help to pay their rent or food parcels donated from leftovers being thrown out by supermarkets.

This is a country with net household wealth of $2.25 trillion, which is $450,200 per person. How can 90% think it’s ok for 10% of our people to be so poor they can’t afford a place to live or enough food to eat?

The charts that show how exceptional New Zealand is

Housing waiting list almost quintuples in five years

House values and rents rose much faster than incomes

Kind regards

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: Christopher Luxon’s decision to rule out National governing with Te Pāti Māori and to sound a Don Brash-like ‘one person, one vote’ alarm appears to be painting his party’s and his own support into a more extremist and less popular corner with fewer pathways to governing after the October 14 election.

The latest Newshub-Reid Research poll out last night shows support for both National and Labour falling, with Green and ACT support virtually unchanged and the two blocs virtually tied, while Te Pāti Māori rose to 1.7 points to 3.5% and TOP rose 0.5% to 2.0%. Luxon’s own support as preferred PM slumped to a record low that was below the levels then-leader Judith Collins took with her into the 2020 election, which was disastrous for National.

Paying subscribers can see more detail, analysis and charts below the paywall fold and in the podcast above.

My pick of this morning’s news in the political economy

Luxon paints himself into more unpopular, power-less corner

Newhub published the results of its latest Reid Research opinion poll last night, showing National and Labour neck-and-neck with support levels of 35.3% (down 1.3%) and 35.9% (down 2.1%), with ACT on 10.8% and the Greens on 8.1%, both virtually unchanged. Te Pāti Māori (TPM) was on 3.5% up 1.7 percentage points, NZ First at 3%, up 0.8 points, and The Opportunities Party (TOP) at 2%, up 0.5 percentage points. National’s decision to rule out Te Pāti Māori last week looks significant, given it now clearly is in the kingmaker position. (See more in charts of the day below)

But the poll wasn’t good news for Christopher Luxon, with his position as preferred PM dropping 2.4 points to a record low for Luxon of 16.4%, which is also lower than Judith Collins’ 18.4% before the 2020 election. PM Chris Hipkins’ support as preferred PM rose 3.8% to 23.4%.

The cars vs bikes culture war fires up again in Christchurch

Christchurch City Council Mayor Phil Mauger has accused Council staff of ‘running amok’ with ‘anti-car’ policies after they approved a cycle lane without going to the full council, which he said meant they needed to be ‘reined in’, The Press-$$$’ Tina Law reported this morning, quoting Mauger as saying:

‘‘The anti-car brigade have been into this. They are trying to create congestion.’’

Cr Aaron Keown said he found it hard to believe that removing a lane of traffic and creating a cycle lane in its place was classed as temporary traffic management.

‘‘This is really, really sneaky. I don’t think the public are going to be happy about this at all.

‘‘I’ve never seen temporary work look like this in my 12 to 15 years of being elected. This kind of behaviour is unacceptable.’’

But, Cr Sara Templeton said staff were upfront that the work was going to happen and councillors were aware of it.

A March 14 report that asked the council to make a decision on parking charges on Gloucester and Hereford streets near the museum, mentioned plans to put in the cycleway under a temporary traffic management plan.

It went on to say that once those works were in place, a report would go to council to seek approval for them to remain while the museum was redeveloped, which would take about five years. The Press-$$$’ Tina Law

The newly-stressed middle isn’t as stressed as long-stressed renters

Canstar analyis published in this morning’s NZ Herald-$$$ show covid-era home buyers of properties at record-high prices now face interest burdens of about a third of their disposable incomes.

Canstar’s analysis found those on average household incomes ($151,450) who purchased a property in April 2021 will now be paying an estimated 31 per cent of their income into their mortgage. The numbers are based on the average New Zealand house value of $845,491 on March 31, 2021, with a 20 per cent deposit, giving a loan amount of $676,393 taken out over a 25-year term.

Two years ago the monthly borrowing cost was $3055 based on the average two-year fixed term rate of 2.56 per cent which was just under a quarter of the average household income. Now the rates have risen to an average of 6.5 per cent for a two-year fixed term, which would increase the monthly repayments to $4451 or 31 per cent of the average household income.

“We’ve seen a perfect storm of financial pain for those who purchased houses two years ago, when property prices were at their peak and interest rates were at a record low,” Canstar New Zealand general manager Jose George said

“Since then, the costs of servicing mortgages has increased dramatically, as have day-to-day expenses such as groceries,” he said.

“It’s an incredibly difficult time for all New Zealanders, but even more so for those who purchased homes during these boom times.” NZ Herald-$$$’s Cameron Smith

However, it’s worth remembering, as of June 30 last year, Stats NZ reported 25% of renters paid more than 40% of their income in rent, while 10.5% of those with mortages paid over 40% of their income on mortgage payments. Nearly 43% of renters paid more than 30% of their income in rent, while 20.6% of home-owners did.

It’s also worth remembering the scenario painted by Canstar is hypothetical and suggests those buying homes in 2021 all had that much income ($151,040) and debt ($676,393). ANZ figures out earlier this month show their average mortgage size was $194,000 in the six months to March this year and the average new mortgage size was $453,000 in late 2021. (See more in Charts of the day below)

The stressed middle is more stressed, but not to breaking point broadly, and remain far less stressed than renters.

$2b of flood repair money for costs estimated at over $6b

The Government announced yesterday that this Thursday’s Budget would include $941 million of operating spending and $195 million capital spending on flood repairs and recovery. That’s on top of $889 million of operating and $1.5 million of capital spending committed previously, giving a total of $2.026 billion so far.

Treasury has estimated the damage from Cyclone Gabrielle and the Auckland Floods could range from $9 billion to $14.5 billion, including $5 billion to $7.5 billion of damage to infrastructure owned by central and local government. No doubt more will be announced in the months and years to come, but the commitments so far pay for about a third of the damage.

Charts of the day

Te Pati Maori in kingmaker position

Renters are still more stressed than buyers

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: This week’s news in geopolitics and Aotearoa’s political economy I covered via The Kākā for paying subscribers included:

* Migration stats showing annualised net migration running at well over 100,000, creating population growth of close to 2%, which is four times the rate the Stats NZ and Infrastructure NZ assume for long term population growth; Friday’s Chat

* Finance Minister Grant Robertson saying New Zealand couldn’t afford the $220 billion of spending needed to rectify past under-investment in infrastructure and cope with population growth of 0.5% per year, but simply stated we could handle current population growth of 2% per annum; Friday’s Chat

* Robertson saying the Government would fund cyclone repairs out of $4 billion of savings and under-spend identified elsewhere, and the Government’s top priority was fiscal restraint to take any pressure off inflation and interest rates; Thursday’s Chat

* Treasury figures showing how the Government’s backsliding on its Emissions Trading Scheme has blown an $800 million hole in its Budget, which was now running $2.5 billion behind forecasts because of slower tax receipts elsewhere as the economy slows; Wednesday’s email

* Christopher Luxon ruling out National coming to any governing arrangement with Te Pāti Māori, saying it was different to the one that governed with National from 2008 to 2017 in wanting separate institutional arrangements, while National wanted “one standard of citizenship, meaning one person, one vote”; Wednesday’s Chat

* PM Chris Hipkins as good as confirming a market study into banks would be announced before the election, with my analysis of what that market study should look at; Tuesday’s email and,

* A cascade of surveys and leaks showing the health system is on the brink of collapse just as the winter arrives, and just five months before the election. Monday’s email.

What we talked about on the ‘hoon’

In this week’s podcast above of the weekly ‘hoon’ webinar for paying subscribers at 5pm on Friday night, I talked with co-host Peter Bale in Spain and special guests:

* University of Otago Foreign Relations Professor Robert Patman about the US pivot away from the the ‘old’ globalisation/free markets ‘Washington Consensus’ to a new Consensus around green industrial policy and competing with China, plus the latest on Ukraine vs Russia;

* Former Retirement Commissioner Diana Crossan talking about a letter from more than 90 wealthy New Zealanders calling for higher taxes on the wealthy;

* Tax expert Terry Baucher on the structure of our tax system, the big gaps and how it could be filled.

The Hoon’s podcast version above is produced by Simon Josey.

Thanks to the support of paying subscribers here, I’m able to spread the work from my public interest journalism here about housing affordability, climate change and poverty reduction around in other public venues.

Other places I’ve appeared this week

My podcast for The Spinoff this week

The Toyota Corolla of house builders - Most new homes in Aotearoa are still built as individualised and bespoke things with a multitude of building materials, standard, building techniques and forms. It feels a lot like the early days of car manufacturing, when there were thousands of builders with many more thousands of models. Then along came Henry Ford and Toyota to standardise and mass produce to drive prices down and quality up. This week on When The Facts Change I talked with Simplicity Living MD Shane Brealey about how to build the Toyota Corolla of homes for two thirds the cost of other homes.

Peering back at Piggy - I spoke with podcaster Tom Leeman for his The Hated and The Dead series about Robert Muldoon.

Chat thread of the week

I also host regular discussions on the Chat section of The Kākā for paying subscribers.

Here’s the most commented one:

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TL;DR: PM Chris Hipkins as good as confirmed yesterday a market study into banks would be announced before the election and happen some time in the next year or two.

In a deeper analysis below the paywall fold in the podcast above for paying subscribers, I argue any market study should focus on why Aotearoa’s big four Australian-owned banks are able to make world-beating profits without much risk, including closer looks at:

* A surge in net interest margins, partly due to cheap Reserve Bank loans and the Reserve Bank paying billions in interest on deposits of money created by the Reserve Bank during the Covid lockdowns;

* How the banks have digitised their operations to massively improve efficiency by getting customers to do more work in the last 20 years, but have shared few of the financial benefits with customers, and in the process disinfranchised older, more rural, Māori and Pasifika customers and potential customers in the process;

* How the banks increased their efficiency and lowered costs by pulling out of regional areas and accelerated a shift to non-cash and electronic payment systems, without investing in systems to ensure resilience to outages and access to less digitally savvy or resourced customers; and,

* How banks understandably (but unfortunately) increased their profitability and reduced risks through a multi-decade process of skewing their lending and operations away from businesses and farmers and towards households and brokers chasing leveraged and tax-free gains from a tripling of residential land values.

…bank profits are growing more than twice as fast as public health spending and will be worth the equivalent of about a quarter of the health budget by the end of the year.

What a market study of banks should focus on

PM Chris Hipkins yesterday echoed and reinforced comments last week from Commerce Minister Duncan Webb that a market study into banks by the Commerce Commission is likely to be foreshadowed before the election.

Labour promised in its 2020 manifesto to carry out a market study into building materials, which was agreed by Cabinet shortly after the 2020 election and completed in December last year. On past form, Labour has signalled one or two market studies in manifestos before each of the 2017 and 2020 elections. Banking looks to be on the agenda for the 2023 manifesto.

Asked if the Government was concerned about bank profits, Hipkins told his post-Cabinet news conference yesterday:

“We’ve previously signalled that we’re concerned about the level of bank profits and that’s something that we will take some time to look at. I haven’t got an announcement for you on that particular topic today, but it is something that we have foreshadowed previously that we would look at.”

Media: Can we expect an inquiry into banking before the election?

“I certainly wouldn’t rule that out.” Hipkins via a transcript of yesterday’s news conference in the Beehive.

Given Hipkins is prone to saying he won’t play the ‘rule-in, rule-out’ game, this is effectively saying he’s likely to announce a market study of banks.

Plenty of official mood music around

The Reserve Bank (Te Pūtea Matua) has also signaled it would appreciate a market study, particularly after publishing an extensive piece of analysis last week titled: Trends in bank profitability, which showed New Zealand’s banks were the among the most profitable in the world, but with the lowest volatility and least risk for shareholders. This Reserve Bank chart demonstrates the high-returns-for-low risk nature of bank profits here vs banks elsewhere:

Three of the big four banks have also reported their profits for the six months to March 31 in the last week, including:

* ANZ NZ reporting (page 65) on Friday its half-year cash profit rose 13% or $96 million to a record-high NZ$842 million after it increased its net interest margin by 34 basis points to 2.67% and cut operating costs by $21 million, including reducing full time equivalent staff numbers by 154 to 6,785;

* BNZ reporting on Thursday its first-half cash profit rose 23.5% or $157 million to a record-high $825 million, due largely to a 41 basis point improvement in its net interest margin to 2.45%; and,

* Westpac NZ reporting yesterday a pre-provision profit of $748 million, up 8%, after increasing its net interest margin by 14 basis points to 2.10%.

ASB’s financial year ends on June 30 so it did not report in this round, but we’re likely to get an indication of how it’s going later today in a trading update in Australia from its parent, the Commonwealth Bank of Australia. ASB reported on February 15 its first half cash profit rose 11% to $822 million, driven largely by a 33 basis point increase in its net interest margin to 2.52%.

Bank profits growing twice as fast as the health budget

Collectively, the big four banks have made $3.237 billion of profit in the last six months, up 9.91% from the same half a year ago. That represents profit worth 1.658% of nominal GDP in the last reported six months, up from 1.654% of GDP in the same half a year ago. Nominal GDP rose 9.67% so the 9.91% rise in bank profits meant the bank profit share of the economy only rose slightly.

For comparison’s sake, Government spending on health is forecast to be $28.849 billion in the current year to June 30, up 4.3% or $1.191 billion from an admittedly Covid-inflated $27.658 billion the previous financial year. That means bank profits are growing more than twice as fast as public health spending and will be worth about a quarter of the health budget by the end of the year.

So why are profits so high and growing fast (albeit as fast as GDP)?

The big banks are now so big and so entwined in our housing market-with-bits-tacked-on-economy that the outsized growth of household spending, borrowing, residential investment almost automatically turns into high bank profits. When the real estate sales, development and equity withdrawal industrial complex grows faster than the real business sector and the non-real estate services sectors (such as health, education and transport), the banks do very well.

Owner-occupiers and residential property leverage their equity with bank loans to buy more homes for themselves and their kids, which the banks prefer to make relative to business lending, which is more complicated, risky and time-consuming. Effectively, our real estate obsession exists in a co-dependence with banking.

That means most of the competitive action and any recycling of profits to customers is focused on discounts for fixed mortgage borrowers, while the less competitive areas such as term deposits, transaction accounts and payment network fees receive less of the recycling. Given the relative out-performance after tax over the last 30 years of untaxed gains in residential land values, households with surpluses just save them up in banks and look for opportunities to gear them up in more residential land, rather than invest them in growing either their own real businesses or putting cash into equity in others’ real businesses.

This was best illustrated in Westpac NZ’s commentary on page 53 of the full commentary for investors released yesterday by Westpac Group

The net interest margin was up 14 basis points with rising interest rates improvingdeposit spreads and returns on capital balances. Loan spreads continued to decline due to a competitive mortgage market. Westpac commentary on NZ profits.

Westpac’s profits would have been higher, if not for regulatory intervention to reduce card fees for all banks and a Reserve Bank requirement to cordon off its IT systems to be more resilient. As with the other three banks, Westpac reported continued very low losses from its mortgage loans, given the sharp rises in equity and borrower incomes in the last 20 years, and very low interest rates for almost all of that time until now. Westpac grew its mortgage lending by $1.4 billion to $65 billion in the first half year from the second half of the previous year, while its business lending was flat at $32 billion.

The big four have also been very effective at reducing their cost to income ratios over the last three decades, buying up rivals such as Trust Bank, Post Bank, National Bank, Rural Bank and Countrywide and then closing duplicated branches, especially in some rural areas where the big four have pulled out altogether.

This pull-back from the regions was particularly evident during the fallout from storms earlier this year, where bank branches and ATMs in remoter rural towns and small cities were not available for days on end because of power, internet and telecommunications outages.

When efficiency trumped resilience

The Reserve Bank made a point in its Financial Stability Report last week of calling out the banks’ downgrading of resilience and accessibility in provincial areas because of what happened during Cyclone Gabrielle.

The disruptions to the cash industry caused by Cyclone Gabrielle have highlighted the lack of resilience in the cash system and its vulnerability to power, data, and road network outages, particularly due to banks reducing branch and ATM networks and retreating from offering in-branch cash services for retailers. Given the increased likelihood of extreme weather events in the future as a result of climate change, this lack of resilience in the cash sector will need to be addressed.

This will be an increased focus in our prudential supervisory engagement, as well as a consideration in cash system redesign work under our Future of Money – Te Moni Anamata programme. Reserve Bank commentary in FSR (page 24).

So is all the profit growth justified?

The Reserve Bank also suggested some reasons why the banks’ profitability was higher than their similar sized peers overseas and their smaller rivals here in its analysis last week, including:

* greater economies of scale after the various mergers;

* lower head office costs, given their parents’ offices are in Australia;

* lower risks and therefore higher risk-adjusted returns because the big four here don’t do fancier (and riskier) things such as investment banking and funds management; and,

* investors living in Australia who own bank shares can’t use the ‘franking credits’ from the New Zealand earnings portion of their banks’ profits.

Isn’t it good to have profitable banks that are strong?

The banks themselves and the Reserve Bank (albeit in a hesitating way) have argued the high and growing profits are both a reflection of legitimate market activity and a driver of strong banks.

It’s true our banks have relatively high equity capital levels, as do their parents in Australia. But that is at least partially due to the Reserve Bank here and the Australian Prudential Regulation Authority (APRA) both having more conservative capital requirements than regulators overseas. The Reserve Bank here has also dramatically increased its requirements, relative to regulators overseas and APRA. That is forcing banks to put aside more capital now, largely by reducing dividend payments to their parents over time. In theory, that shouldn’t affect the profitability over time, but it may lead to the local units trying to create extra profits to keep up with the dividend payments.

The local bank CEOs have argued in the last week that their profitability ratios in terms of return on equity are no higher than those of listed NZX companies. That may be true, but doesn’t take into account that the profits of those NZX companies are both collectively smaller and more volatile, so therefore should attract relatively higher returns on equity than banks.

The Reserve Bank appeared to side with the banks in its final comments in the analysis, although there was a slight passive-aggressive sting in its very last comment (bolding mine):

The benefits of profitable banks are particularly evident in the current environment, with New Zealand banks in strong positions to manage increasing stress in their lending books and a deterioration in global economic conditions.

Importantly, profitability allows banks to support their customers by taking a long-term view in times of stress. It also enables the necessary investment in systems to improve efficiency and operational resilience. Therefore, profitability puts banks in a position to earn their social licence by contributing to a sound, efficient, inclusive, and dynamic financial system. Reserve Bank comments on page 25 of FSR analysis of bank profitability.

The Reserve Bank went on to include a full analysis of financial inclusion and stability in the FSR, which made the point:

Since 2016, for instance, the nine largest providers of banking services in the United Kingdom have been legally required to offer basic bank accounts, which has contributed to inclusion and acted as a stepping stone for people to access further banking services. Reducing the unbanked population helps grow the balance sheet of the formal financial sector, and broadens the base of low-income savers and borrowers who often maintain steady depositing habit. Reserve Bank in Box B on page 26 of the of FSR

Where have all the ATMs gone?

Global Finance magazine reported in 2021 that just 1% of the population in New Zealand was unbanked, which was more than Australia and Canada on 0%, but better than the UK on 4% and the US on 7%. However, New Zealand fares much worse on access to ATMs at 63.5 per 100,000 people, less than a half of Australia’s 146.1 and less than a third of Canada’s 214.1.

…we don’t tax land or wealth, and therefore don’t invest as much in R&D and infrastructure as other countries, which means our mortgage-based banks will by necessity be larger and more profitable.

The issue of access to bank services is separate to whether the banks are generating super-profits from a lack of competition, but are certainly part of the social license issue for the banks emphasised by former PM Jacinda Ardern and noted again by the Reserve Bank last week.

A market study may well find the banks are hyper-competitive in some areas such as fixed-term mortgage lending and term deposit accounts (when interest rates are high and/or rising), but not in others such as transaction accounts, savings accounts and transaction fees.

Perhaps we should turn the finger of blame upon ourselves

But any market study may also make the point that we have the banks we want and deserve. Ultimately, the fingers of blame could just as easily turn back on the Government and voters themselves (ourselves). Without giving up on the tax-free status of leveraged gains on residential property, it’s hard to change the underlying incentives that mean our four banks earn as much in profit together as all 122 companies listed on the NZX, and with much less volatility.

We may be frustrated our banks are so profitable, but that’s just the way we have effectively built our economy and financial futures around borrowing against the value of the land under our houses, and therefore, just the way we really want it. A market study will satisfy voters and politicians looking for someone else to blame, or for a distraction from the core issue, but it won’t change that underlying problem.

Not much really changes in our housing market with bits tacked on until we we start taxing the leveraged wealth in residential land, just as other forms of income and spending are taxed here, and just as capital gains, land and inheritances are taxed in other countries.

The study may well find the reason why our banks are more profitable relative to the risks than for other similar sized banks in other countries is the same reason why the rest of our economy and society is under-invested in public infrastructure and services has underperforming on productivity relative to other countries: we don’t tax land or wealth, and therefore don’t invest as much in R&D and infrastructure as other countries, which means our mortgage-based banks will by necessity be larger and more profitable.

Ka kite ano

Bernard

PS. Do you want this one opened up entirely?

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