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OECD urges capital gains tax, deposit insurance and regulatory certainty

Tuesday 4th June 2013

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A report on New Zealand by the Organisation for Economic Cooperation and Development supports key elements of the Labour and Green parties' policies for making the economy grow faster and distribute wealth more fairly.

Its two-yearly review of the economy recommends a capital gains tax, permanent deposit insurance for banks that are "too big to fail" and raising the age of government pension entitlement, all of which are key Opposition party policies.

However, it also says "policies are generally on the right track", with the government seeking to reduce its spending and public debt as a proportion of the economy, and appropriate monetary policy despite the New Zealand dollar being more than 10 to 20 percent over-valued.

Not for the first time, the OECD suggests no magic bullet policy solutions for what it calls "the New Zealand conundrum" of low productivity and income, "despite comparatively good structural and macroeconomic policy frameworks" and "surprisingly good metrics for many other dimensions of well-being."

New Zealand continues to score highly on the United Nations Human Development Index, which includes access to health, education, housing and welfare, and human rights and freedoms.

But economic output for per hour worked remains 40 percent lower than the average of the top 17 countries of the 26 member organisation, sometimes called the "rich countries' club".

It also found "income inequality is higher than the OECD average" and that "the system of taxes and transfers reduces inequality less than in most OECD countries", leading the OECD to recommend New Zealand adopt a capital gains tax.

Prime Minister John Key has consistently ruled out implementing a capital gains tax, while the Reserve Bank has argued its new open bank resolution policy, which would allow a bank collapse to be managed by making all depositors share in its losses, does not need the back-up of a deposit insurance scheme.

However, the OCED says permanent deposit insurance would be a further bulwark against banking system vulnerability caused by New Zealand's relatively small number of large banks. The Green Party has argued deposit insurance is a necessary step.

OBR "may not be enough to prevent bank runs in all circumstances, as once OBR is applied to one bank,

depositors may fear contagion to the others. Implementing a permanent deposit insurance

scheme may help reduce risks of retail runs," the country report says

While deposit insurance "raises moral hazard", tighter banking supervision could fix that, and some , but that should be handled by tighter bank supervision and banks may expect emergency deposit insurance to be implemented anyway.

"The fact that deposit insurance was adopted under urgency in 2008 (and progressively removed over the following few years) may lead to the expectation that a similar policy would be implemented in a future crisis," the OECD says.

Echoing numerous earlier reviews, the report says "macroeconomic vulnerability in the form of high external indebtedness remains significant, and real exchange-rate appreciation has impeded the growth of the export sector, which is the basis upon which debt will ultimately have to be repaid."

"This combination of high interest rates and high exchange rates probably reflects low domestic saving relative to the investment demands of the economy and high external indebtedness rather than overly tight monetary policy," the OECD says.

It recommends higher KiwiSaver contribution rates by employers and workers, but says the scheme has come at considerable government expense in its early years, costing around $5 billion in subsidies for scheme entrants in return for $2 billion of additional savings.

The report is also critical of New Zealand's high-cost, low speed internet services, especially given current regulatory uncertainty.

"While the government's ultra-fast broadband (UFB) initiative to broaden access to fibre-based Internet aims to enhance productivity and competitiveness, some significant regulatory uncertainties may impede private industry investment and fibre uptake," the report says.

"These were accentuated by the government's decision to delay implementing the Commerce Commission's draft proposal to reduce prices that Chorus, the company owning the existing copper infrastructure, can charge for wholesale network access.

"Because Chorus also owns much of the fibre network, the government was concerned that such price cuts would depress Chorus's income and ability to invest in UFB," the OECD observed. "The telecommunications regulatory framework ... would benefit from clearer regulation of fibre network pricing that is consistent with the cost-based approach used for copper."

The OECD also says tax breaks favouring oil and gas exploration should be removed and that if there are major finds of oil, gas or other minerals, "proceeds should be reserved for public debt repayment or saved in a sovereign wealth fund."

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