Two Government moves highlight the risks here of ‘regime uncertainty’, writes the New Zealand Initiative’s Eric Crampton
New Zealand is not among the world’s most geologically stable places. The Christchurch earthquake was just over a decade ago. The Alpine Fault is overdue. And Mount Taranaki has about an 80 percent chance of erupting by 2065.
For the past three decades, policy has been far more predictable than geology. While geology imposes risk, policy has provided stability. Policy changes have generally been well-signalled and have worked within a robust rules-based structure.
But more recent changes are making policy a bit more like the country’s underlying geology. Policy regimes are becoming fundamentally uncertain and unpredictable. Doing business in New Zealand is consequently getting riskier.
Policy can never really be held constant. Circumstances change, as do governing coalitions. But most policy changes do not bring what economists call regime uncertainty. Regime uncertainty becomes a risk when surprising Government actions seem likely to beget further unpredictable change.
For example, a new 39 percent top marginal tax rate affecting higher earners, canvassed during the election campaign, hardly introduces regime uncertainty. It may not be a particularly good idea: it will not raise all that much revenue, and the more substantial difference between the company tax rate and the top marginal income tax rate will cause problems. But it does not make it harder to form expectations about what future policy might bring.
When policy regimes are uncertain, and the fundamental underlying rules of the game seem in flux, it is difficult for businesses and investors to plan.
Last week, Finance Minister Grant Robertson provided a letter to Air New Zealand outlining the Government’s expectations as the majority shareholder. These expectations include maintaining a comprehensive domestic route network; engaging with the development of new aviation fuels and enhancing its role as a leader for best-practice workplace relations.
Robertson noted that because the Government expects meeting the objectives is “aligned to the creation of long-term value for Air New Zealand”, there is no conflict between meeting the Government’s objectives and fulfilling duties to act in the company’s best interest.
Each of the objectives might individually sound innocuous. But each brings a distinct possibility of conflict between acting in the company’s best interest and achieving the Government’s objectives if they ever diverge.
If a regional route becomes unprofitable and the airline can see no way of making the route profitable, will the Government’s objective of a comprehensive domestic route network prevail?
In 2018, Regional Development Minister Shane Jones criticised Air New Zealand’s cutting of regional routes. In response, Air New Zealand Chair Tony Carter wrote to the Minister of Finance, reminding everyone the airline is independent of the Crown. Would that be possible in 2022?
If new synthetic fuels reduce emissions at a cost-per-tonne well above either current prices in the Emissions Trading Scheme or forestry planting, would the airline pursue the more costly option? Or would it be able to shift to alternative fuels only when they become cost-effective?
What might be packed into enhancing best-practice workplace relations when the Government is also working through a new industrial awards system? An industrial award might not be what is best for the airline and its workers.
Robertson also signalled the Government would be involved in a board renewal process to help achieve the Government’s expectations and objectives. If achieving the Government’s objectives should come at a cost to the firm’s best interests, can minority shareholders be sure that their interests will be protected?
The mixed-ownership model depends on the Government behaving as any other shareholder. While Robertson’s letter was addressed to Air New Zealand, the Government is also the majority shareholder in other enterprises. The New Zealand Herald’s Fran O’Sullivan at the weekend wondered whether directors and shareholders in those other mixed-ownership companies might feel a chilling effect.
What should minority shareholders in those other companies be expecting?
The mixed ownership model now appears riskier. But other sectors face greater regime uncertainty.
Tax changes normally follow a rather careful process. Changes to the tax treatment of mortgage interest for residential rental properties did not. They bring substantial uncertainty about just what might come next. That uncertainty makes investment in rental property development riskier.
If the Government exempts new builds from the announced tax changes, how could investors find that promise to be credible? What would prevent a future Finance Minister from saying those exemptions were too definitive?
If rents go up because of the tax changes, will the Government impose rent controls? Robertson refused to rule them out; they seem held in reserve as a threat. But the threat can too quickly become a self-fulfilling prophecy. Landlords worrying about coming controls may want to lock in increases ahead of the ban.
Rent controls are poor policy: they reduce rental housing supply and make it much harder for renters to move house. For every surveyed economist who agreed rent controls were beneficial, 40 disagreed. But when policy changes in housing are announced without any reasonable input from officials, can we rule anything out?
If further tax changes and rent controls could be on the table, how many will be willing to take on debt to finance new rent-to-build properties?
The Government was happy to announce substantial ad hoc changes to the tax treatment of the largest expense facing businesses in one sector, with casual asides that providing rental housing should never really have been considered a ‘business’ in the first place. What other sectors should worry that they might be next??
New Zealand’s geologic risk is unavoidable. But poor policy processes that build regime uncertainty are a choice – and a costly one.