Parties react to pound meltdown

RIPPLES from British Prime Minister Liz Truss’ disastrous minibudget did not take long to reach Wellington. The collapsing pound dragged the NZ dollar down with it. Politicians began to weighin, with Labour trying to draw parallels between Truss and the National Party and National desperate to make sure they didn’t stick.

For the red team, markets’ rejection of Chancellor Kwasi Kwarteng’s tax cut package worth £45 billion ($87 billion) by 202627 paired with an energy package worth £60 billion

($116.9 billion) over the next six months, was a delicious ‘‘I told you so’’ rejection of the Reaganite fiscal alchemy much of the global left has spent nearly half a century trying to bury.

Markets were unimpressed with the TrussKwarteng plan to increase spending while cutting taxation at a time of already high borrowing.

They panicked.

City traders crowded about their Bloomberg terminals witnessed the precipitous slide of the pound: the vertiginous plunge of the exchange rate as sharp as the White Cliffs of Dover, the dull thud of its landing, rise, and slump again as risibly percussive as the Benny Hill theme. You can almost picture Bank of England Governor, Andrew Bailey, £65 billion truncheon in hand, entering stage right to chase the poor pound back to a less embarrassing rate.

For the British Tories, the crash was doubly humiliating. For seven years now the party and the government it heads, has been locked in a diplomatic contest to wrest back power and sovereignty from the European Union. The events of this week go to prove what many already knew to be true, which is 21st century the ultimate sovereign is the bond market and what investors believe to be credible.

Markets saw the TrussKwarteng plan this week and baulked.

Bill Clinton’s former strategist James Caville once bemoaned: ‘‘I used to think that if there was reincarnation, I wanted to come back as the president or the Pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.’’

The ultimate judge of whether the British government could fund its continued functioning wasn’t a faceless Brussels bureaucrat, but a faceless bond vigilante.

Both Labour and National were quick to realise the domestic implications of the Truss plan.

Finance Minister Grant Robertson saw it as the embodiment of National’s ‘‘fiscal Bermuda triangle’’ — a devastating attack he used in the last election to ridicule the party for its promise to increase spending, cut taxes and reduce debt at the same time.

‘‘We are seeing today, in the United Kingdom, just what can happen when ideology buys into the reality of a constrained Covid world,’’ Robertson told the House on Wednesday.

This election, National is promising once again to cut taxes and increase spending in some areas — and all while being more parsimonious than Labour.

The party was quick to realise the Truss example could quickly turn into a living argument against their fiscal plan in the way Labour used other countries’ failures against Covid19 to argue for their own, more restrictive policies. National proactively fronted media to explain why their plan was different. The party even disclosed its own internal reckonings of the size of its tax policy to prove the Truss plan was of an altogether different scale to what National was proposing.

Truss’ tax plan works out at about 4.2% of GDP, double what National thinks its cuts would cost. On the spending side of things, National has pledged to increase health and education spending by at least the rate of inflation — a promise that, depending on how it is calculated, will easily come in north of $1 billion each year.

The thing that spooked markets in the UK was the entire cost of the plan was loaded on to the national debt — debt which investors quickly demanded more money to buy.

National’s plan is very different. At least some will be funded by cutting other lines of spending, and the party has also promised to return to surplus and reduce debt.

Whether the party can credibly deliver this is a legitimate question — but that’s a very different question to what’s currently being asked, which is whether the bond markets will meltdown at what is, compared to the UK, a fairly modest promise and one that is intended to reduce, rather than increase debt.

Indeed, on current forecasts Robertson or Nicola Willis’ first postelection budget would deliver a surplus.

Finance spokeswoman Willis told RNZ the plan would be staggered over the three years of the next parliamentary term and the shape and phasing of the plan would be determined by the PreElection Economic and Fiscal Update (PREFU) published before the election next year. Willis is not yet saying policies will be scaled back or cut, but she is saying the plan will need to plausibly fit into Treasury’s forecasts for the health of the books.

Indeed, the very existence of PREFU makes a Trussstyle plan difficult to proceed with. Parties know their election spending proposals, either fit within PREFU’s confines or they’ll spend every hour until polling day defending themselves against allegations of spendthrift.

Robertson ultimately failed to land a killer blow on Wednesday because National’s fiscal problem is one quite different to the UK’s.

National’s problem last election was one of accounting and arithmetic — the numbers quite literally didn’t add up. The fiscal philosophy wasn’t the problem, as it is with the Truss plan. National then, and National now, remains fairly orthodox in its economic approach.

One of the features that distinguishes New Zealand politics from the United Kingdom is that both major parties believe themselves to be bound by what markets determine to be fiscally credible.

Even the Green Party, during the 2014 election (a period remembered as being particularly left wing for them), campaigned on delivering bigger surpluses than the governing National Party. Fiscal orthodoxy mattered so much, that the Greens saw it as an issue on which it needed to compete, rather than reject.

There will be a fiscal debate next year, but it will not be about whether the government can afford Labour or National’s spending proposals, but about who pays for them — and how much.

Herald.