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Population Ageing and the Efficiency of Fiscal Policy in New Zealand

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  • Nick Davis
  • Richard Fabling

    ()
    (The Treasury)

Abstract

New Zealand’s ageing population is expected to have a significant impact on long-term government expenditure, particularly in the areas of health and superannuation. Recent projections from Treasury’s Long-Term Fiscal Model suggest that, under current policy settings, government expenditure (excluding financing costs) will increase by approximately seven percentage points of GDP by 2050. From the perspective of economic efficiency, we consider several methods for financing that expenditure. We find that tax smoothing is significantly more efficient, from a welfare perspective, than balancing the budget. This result is primarily due to our assumption that the assets accumulated under tax smoothing earn an average return over the government’s cost of borrowing. This excess return is not without risk. By modelling asset returns and economic growth in a stochastic manner we find that tax smoothing with a diversified portfolio of financial instruments may also reduce year-on-year tax rate volatility. Introducing practical considerations, in particular expenditure creep (where additional government spending is triggered by an improving balance sheet position), tips the scales in favour of a balanced budget approach. Hence, strong fiscal institutions are a prerequisite for achieving the welfare gains from tax smoothing.

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Bibliographic Info

Paper provided by New Zealand Treasury in its series Treasury Working Paper Series with number 02/11.

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Length: 23 pages
Date of creation: Jun 2002
Date of revision:
Handle: RePEc:nzt:nztwps:02/11

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Related research

Keywords: Public Finance; Tax Smoothing; Balanced Budget; Demographics; and Deadweight Loss;

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References

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  1. Bohn, Henning, 1990. "Tax Smoothing with Financial Instruments," American Economic Review, American Economic Association, American Economic Association, vol. 80(5), pages 1217-30, December.
  2. Lucas, Robert Jr. & Stokey, Nancy L., 1983. "Optimal fiscal and monetary policy in an economy without capital," Journal of Monetary Economics, Elsevier, Elsevier, vol. 12(1), pages 55-93.
  3. Blundell, Richard & Macurdy, Thomas, 1999. "Labor supply: A review of alternative approaches," Handbook of Labor Economics, Elsevier, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 27, pages 1559-1695 Elsevier.
  4. David M. Cutler & James M. Poterba & Louise M. Sheiner & Lawrence H. Summers, 1990. "An Aging Society: Opportunity or Challenge?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 21(1), pages 1-74.
  5. Browning, Edgar K., 1995. "Effects of the Earned Income Tax Credit on Income and Welfare," National Tax Journal, National Tax Association, vol. 48(1), pages 23-43, March.
  6. Andrew Caplin & John Leahy, 2004. "The Social Discount Rate," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 112(6), pages 1257-1268, December.
  7. Barro, Robert J., 1979. "On the Determination of the Public Debt," Scholarly Articles 3451400, Harvard University Department of Economics.
  8. repec:fth:coluec:754 is not listed on IDEAS
  9. Pencavel, John, 1987. "Labor supply of men: A survey," Handbook of Labor Economics, Elsevier, in: O. Ashenfelter & R. Layard (ed.), Handbook of Labor Economics, edition 1, volume 1, chapter 1, pages 3-102 Elsevier.
  10. John Woods, 2000. "Manual for the Long Term Fiscal Model," Treasury Working Paper Series, New Zealand Treasury 00/02, New Zealand Treasury.
  11. Alberto Alesina & Roberto Perotti, 1995. "Fiscal Expansions and Fiscal Adjustments in OECD Countries," NBER Working Papers 5214, National Bureau of Economic Research, Inc.
  12. Thai-Thanh Dang & Pablo Antolín & Howard Oxley, 2001. "Fiscal Implications of Ageing: Projections of Age-Related Spending," OECD Economics Department Working Papers, OECD Publishing 305, OECD Publishing.
  13. Polackova, Hana, 1997. "Population aging and financing of government liabilities in New Zealand," Policy Research Working Paper Series, The World Bank 1703, The World Bank.
  14. Alberto Alesina & Roberto Perotti, 1994. "The Political Economy of Budget Deficits," NBER Working Papers 4637, National Bureau of Economic Research, Inc.
  15. Nick Davis, . "Governance of Crown Financial Assets," Treasury Working Paper Series, New Zealand Treasury 98/02, New Zealand Treasury.
  16. Jeff Huther, . "An Application of Portfolio Theory to New Zealand's Public Sector," Treasury Working Paper Series, New Zealand Treasury 98/04, New Zealand Treasury.
  17. Killingsworth, Mark R. & Heckman, James J., 1987. "Female labor supply: A survey," Handbook of Labor Economics, Elsevier, in: O. Ashenfelter & R. Layard (ed.), Handbook of Labor Economics, edition 1, volume 1, chapter 2, pages 103-204 Elsevier.
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Citations

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Cited by:
  1. Christopher Ball & John Creedy, 2014. "Tax policy with uncertain future costs: Some simple models," New Zealand Economic Papers, Taylor & Francis Journals, Taylor & Francis Journals, vol. 48(2), pages 240-253, August.
  2. John Creedy & Kathleen Makale, 2013. "Social Expenditure in New Zealand: Stochastic Projections," Treasury Working Paper Series, New Zealand Treasury 13/06, New Zealand Treasury.
  3. Ananda Jayawickrama & Tilak Abeysinghe, 2013. "The experience of some OECD economies on tax smoothing," Applied Economics, Taylor & Francis Journals, Taylor & Francis Journals, vol. 45(16), pages 2305-2313, June.
  4. John Creedy & Grant M Scobie, 2002. "Population Ageing and Social Expenditure in New Zealand: Stochastic Projections," Treasury Working Paper Series, New Zealand Treasury 02/28, New Zealand Treasury.
  5. Ross Guest, 2013. "Intergenerational Smoothing of New Zealand’s Future Fiscal Costs," Treasury Working Paper Series, New Zealand Treasury 13/12, New Zealand Treasury.
  6. Lassila , Jukka & Valkonen, Tarmo, 2008. "Population ageing and fiscal sustainability in Finland: a stochastic analysis," Research Discussion Papers, Bank of Finland 28/2008, Bank of Finland.

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