Key’s N.Z. Surplus Pledge Shows Restraint Outweighs Europe Risks

New Zealand Prime Minister John Key said his budget this week will show the government returning to a “small” surplus in 2015, signaling fiscal restraint even as Europe’s debt turmoil and a global slowdown threaten growth.

Key, 50, is insisting new health and education spending be funded by savings elsewhere as the country seeks to end six years of deficits and limit public debt. Spending restraint makes it harder for growth to accelerate 15 months after the deadliest earthquake in eight decades, adding pressure on the central bank to keep interest rates near a record low for longer or reduce them further.

New Zealand’s 10-year bond yield has fallen to a record and its currency is down 7 percent this month as investors increased bets the Reserve Bank will cut interest rates as commodity prices fall, curbing exports which make up 30 percent of the $127 billion economy. Standard & Poor’s, which lowered the nation’s foreign-currency debt rating to AA in September, wants the government to stay on a surplus path without stalling a sluggish recovery.

“Against the backdrop of Europe, we’re saying that governments intent on returning their budgets to surplus are still a good thing but they should be doing it as conditions allow,” Kyran Curry, an S&P analyst in Melbourne, said in an interview. “It doesn’t matter so much to us if the New Zealand government delays its surplus one or perhaps two years, but we are saying that can’t go on for an extended period.”

Surplus Target

The deficit will narrow to NZ$12.1 billion ($9.2 billion) in the fiscal year ending June 30 from a record NZ$18.4 billion a year earlier, the government projected in February. It forecast a NZ$370 million surplus by June 30, 2015.

In a press conference yesterday, Key said that while his fiscal policy remains flexible, a projected euro-area recession doesn’t appear to be deep enough yet to warrant extending New Zealand’s series of deficits.

“The last thing we want to do is to abandon that target unless we really have to,” Key said before presenting his budget May 24.

New Zealand’s shortfall is expected to be 5.8 percent of gross domestic product in 2012-13, government projections show. That’s wider than the more than 8 percent gaps in the U.S. and U.K., according to data compiled by Bloomberg, and 3 percent deficit in Australia, which this month pledged a return to surplus by June 30 next year.

Falling Currency

The New Zealand dollar is the worst performer this month among the Group of 10 currencies tracked by Bloomberg. The so- called kiwi is down about 14 percent since it reached 88.43 U.S. cents on Aug. 1, the strongest since it was freely floated in 1985.

The country’s sovereign bonds have handed international investors a 7.7 percent return over the past 12 months. When adjusted for currency movements, they are the fourth-best performer among 26 indexes tracked by Bloomberg and the European Federation of Financial Analyst Societies.

Key, a former foreign-exchange head at Merrill Lynch & Co., was re-elected in November to a second three-year term. He has said he will raise tobacco taxes and prescription charges, and review property taxes in the budget. The government will also require students to repay loans faster and ensure a limit on student allowances is enforced.

Government spending accounts for about one-fifth of New Zealand’s GDP.

‘Sub-par Growth’

“Greater fiscal retrenchment reinforces our expectation of a sub-par growth performance,” said Philip Borkin, economist at Goldman Sachs New Zealand Ltd. in Auckland. “It is also consistent with little pressure on the Reserve Bank to act in the near term and a modest tightening cycle by historical standards when it does begin.”

The Pacific nation’s economy is also driven by demand overseas for its raw materials including milk powder, lumber and wool.

Commodity export prices dropped the most in more than three years in May to an 18-month low. Fonterra Cooperative Group Ltd., the world’s biggest dairy exporter, last week said whole milk powder auction prices fell 9.6 percent to the lowest since August 2009.

Weaker commodity prices are a reason there is a 63 percent chance of a quarter percentage-point rate cut from a record-low 2.5 percent at the central bank’s next meeting on June 14, according to interest-rate swaps data compiled by Bloomberg. There is an 85 percent chance of a reduction by September.

Rebuilding

Borkin forecasts New Zealand’s economy will grow 1.7 percent this year after expanding 1.1 percent in 2011. Growth will accelerate to 3.4 percent in 2013 led by construction in Christchurch, where last year’s temblor killed 185 people and led to the demolition of more than 1,000 central city buildings.

Insurance costs and spending on quake assistance contributed to a record budget deficit last fiscal year, while net debt is projected to rise to 29.6 percent of GDP by 2015.

The government last year said it will sell no more than 49 percent in four state-owned energy companies and also reduce its stake in Air New Zealand Ltd. (AIR) An initial public offering of Mighty River Power Ltd. is expected in the third quarter.

To contact the reporter on this story: Tracy Withers in Wellington at twithers@bloomberg.net

To contact the editor responsible for this story: Stephanie Phang at sphang@bloomberg.net

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