A selected issues paper published on 8 February 2016 was prepared by IMF staff as background to consultations in New Zealand under Article IV of the IMF’s articles of agreement.

The paper notes that New Zealand’s economy has performed well in the aftermath of the financial crisis but in 2014 growth began to slow. Housing price inflation has however continued to increase in places.

New Zealand’s economy depends on international investor confidence and is vulnerable to swings in the financial markets. This leads to higher capital costs. Interest rates tend to be higher than in other advanced economies. Household savings tend to be largely invested in real estate, driving up prices and potentially driving out business investment.

The paper looks at aspects of New Zealand’s tax and benefits system that could help to explain the low level of private savings. The study looks in particular at the voluntary Kiwisaver scheme, the pension system and the structure of the tax system. Options for reform are examined.

Generally the tax system is simple and efficient, with a smaller tax burden on the economy than in other advanced economies. The tax system is a broad base and low rate system. There are few incentives to save, apart from the Kiwisaver scheme, which includes limits on the taxation of the return on savings and also some matching contributions from government.

Returns on owner occupied housing are not taxed at all, and returns on rents from housing are taxed relatively lightly. Financial saving is therefore disadvantaged by comparison to saving in the form of housing.

Conclusions

The paper concludes that reforms to increase the level of saving and reduce the disproportionately large investment in housing would have a number of benefits if introduced in a package. This could reduce the negative effects of the large gap between savings and investment and reduce the vulnerabilities relating to the housing market. Capital costs could be reduced and the economic growth potential increased. The reform should reduce the incentives to invest in real estate and increase incentives for savings.

The paper suggests that some of the required changes could be difficult politically, such as for example the introduction of an estate tax, superannuation means testing or increases in land taxes. These could be balanced with other reforms that would be easier to introduce, including an exemption for Kiwisaver returns or reductions in company tax.

The package of reforms could be designed to be fiscally neutral to protect the fiscal position and preserve buffers. The effects of reforms on specific social groups would need to be analyzed and the impact on saving should be analyzed.