FACTBOX-Key political risks to watch in New Zealand

WELLINGTON, Sept 4 (Reuters) - New Zealand's economy is picking up pace as it puts behind it the longest recession in more than 30 years, but the recovery is patchy with consumers still wary in the face of low wage growth, high unemployment, and the global uncertainty posed by the euro zone's fiscal woes and concerns about the strength of the United States' recovery.

Following is a summary of key New Zealand political risks:

PUBLIC DEBT AND POLICY CONSTRAINTS

New Zealand's public finances remain pressured as revenue continues to feel the pinch from the global crisis, forcing hefty government borrowing to finance the shortfall. The government needs to maintain a tight hold on its fiscal position with ratings agencies hovering in the background. New Zealand's economic fortunes have improved and there is no imminent risk of a downgrade, but the country's debt level and the constraints it places on policy remain a key theme.

What to watch:

-- National debt NZTFRY=ECI and government finances NZTFR=ECI data. The National Party-led government's May 20 budget offered continued restraint in official finances but did not bring forward its return to budget surpluses as some analysts had expected, although forecast borrowing was scaled back.

-- The budget did deliver wide ranging personal tax cuts which are calculated to offset a rise in the indirect goods and services tax, but they are forecast to be a net cost to the government.

-- The budget was not enough to tempt ratings agency Fitch to remove the negative outlook on New Zealand. [ID:nWLF004657]

-- The New Zealand dollar NZD=D4 and debt prices <0#NZBMK=> NZDIRS, remain vulnerable to any hint the New Zealand government's fiscal position is weaker than forecast.

TAX REFORM

The budget unveiled long awaited changes to the tax system, and the government delivered the expected wide-ranging income tax cuts, lower company tax, closing of loopholes favouring property investment, and a rise in the value-added goods and services tax (GST). [ID:nSGE64I07B]

It was the most comprehensive reform of the tax system in more than 20 years, but still steered away from the politically difficult capital gains and land taxes.

The main tax changes come into effect on Oct. 1, and it will likely take some time for the full impact to show through. Any signs that low income families are getting little or no benefit from the tax cuts, and indeed are being hurt by the rise in GST may crimp National's high political ratings and lead to infighting among its minor support parties.

What to watch:

-- National's poll ratings. An election is not due until late 2011 but National has shown itself to be sensitive to public opinion.

-- Any policy changes or reversals as National seeks to placate the minor support parties and their political constituencies.

GOVERNMENT EFFECTIVENESS

The centre-right National Party has been at pains to hold the political centre ground and offend as few voters as possible. It has maintained remarkably high poll ratings NZPOLL. However, recently it has reversed or diluted several policies in the face of public discontent.

A plan to allow more exploration and mining of metals in national parks and reserves has been scrapped; plans to revamp foreign land ownership rules to encourage overseas investment are set to be sent for further study with the prospect that restrictions will not be loosened as suggested; and plans to tighten drink drive laws by reducing the alcohol-blood level have been sent for further study over the next two years -- beyond the date of the next election.

The government also has to balance the varying demands of the three smaller coalition parties. The three have pledged to support National on key matters of supply and confidence, ensuring its political survival, but much of the rest of National's political programme comes down to negotiation on specific policies. This leads at times to compromise and delays.

What to watch:

-- The government is expected to last its three-year term but at times may struggle to push through pieces of policy, or be forced to make concessions which are unpopular with its support base in order to get laws passed.

-- The outcome of negotiations with the indigenous Maori people over control of the foreshore and seabed may be difficult and test relations with one of its support parties, the Maori Party.

-- Any extension of the emissions trading scheme which is seen as out of kilter with what is happening internationally.

FOREIGN INVESTMENT RULES

Hong Kong-based Natural Dairy Holdings Ltd (0462.HK) has announced plans to enter the New Zealand dairy sector by buying a group of farms currently up for sale. It says it wants to spend as much as NZ$1.5 billion to buy more farms and set up its own processing plants.

China's Bright Dairy and Food (600597.SS) last month said it would take a 51 percent stake in small scale milk producer Synlait Ltd, prompting concerns about foreign ownership of such a vital economic sector.

The dairy sector provides more than a quarter of New Zealand's exports and more than 7 percent of gross domestic product, and the prospect of anything other than token foreign ownership of dairy farms and processing plants will excite strong passions and debate and ultimately political pressure about the "national interest". The government may be forced to make sensitive decisions that will test its free-market credentials and bilateral trade agreements.

What to watch:

-- The Overseas Investment Office has authority to approve small-scale applications but will likely seek government approval on any application seen as sensitive. Look for any turning down of applications.

-- The government has ordered a review of overseas investment rules to look at making them more streamlined and practical and to encourage foreign investment, but recent signals suggest there may not be too much liberalisation.

STATE ASSET SALES

The National-led government is politically inclined towards the sale of state assets such as coal mines, power companies and railway operations, but is pragmatically inclined not to propose this because of a likely strong negative public reaction.

The party's policy is that there will be no state asset sales in the first term of government and that any policy change will be put to voters at the next election.

But Prime Minister John Key ruled out any privatisation of the small state-owned Kiwibank, a low cost retail bank catering for consumer and small businesses, after a strong public reaction to a suggestion that it might be sold at some stage in the future.

What to watch:

-- Any overt policy change and announcement of assets to be privatised. Conversely, any more moves to rule out the privatisation of some assets, as happened with Kiwibank.

EMISSIONS TRADING SCHEME

New Zealand's emissions trading scheme expanded on July 1 with the inclusion of the energy, transport and industrial sectors, which account for just over half of carbon emissions.

The government has been lukewarm on the ETS, accepting that it must fulfill its Kyoto Protocol obligations, but unwilling to make any far reaching promises not matched by its main trading partners and competitors. Nonetheless, fuel and energy prices are rising. Added to October's increase in the goods and services tax, and rising interest rates as the central bank tightens policy, New Zealanders face a rising cost of living.

One of the government's minor support parties, ACT, is campaigning against the scheme, and many farmers as well as some big business backers of the National Party also want it scrapped.

For a detailed look at the ETS click [ID:nCARBONAU]

What to watch:

-- The Government will review the scheme in 2011 and has said it will delay full implementation if there is no international progress on similar schemes.

-- Any watering down or undermining of the scheme will motivate the well-organised and vocal environmental movement and likely erode National's ratings. Conversely any tightening and expansion of the scheme will anger National supporters. (Editing by Andrew Marshall)