RPT-Fitch: Australia and New Zealand's fiscal trends diverge

Wed Dec 18, 2013 3:06am EST

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Dec 18 (Reuters) - (The following statement was released by the rating agency)

Mid-financial year economic and fiscal updates show fiscal pressure emerging in Australia but alleviating in New Zealand, Fitch Ratings says. Divergent trends in the near-term fiscal positions of the two sovereigns reflect opposing shifts in their underlying economic fundamentals. Although the full scope of policy reforms and adjustments in Australia will take shape in the context of next year's budget, its relatively low public debt burden remains consistent with its 'AAA' rating and Stable Outlook.

The Australian government's mid-year economic and fiscal outlook (MYEFO) does not foresee a return to balanced budgets any time soon. It forecasts the federal government budget deficit current fiscal year at nearly 3% of GDP, against the authorities' original projection of around 1%. The MYEFO also highlights that without reforms the federal fiscal balance will struggle to revert to a surplus even as late as 2023.

The fiscal deterioration does not come as a surprise, as it was signaled by statements from the authorities. Nor is this a significant setback for our overall assessment of near-term creditworthiness, although it could put some pressure on our medium-term view.

Canberra's fiscal consolidation response remains a work in progress. The government has indicated that it is still committed to a return to surpluses "that build to at least 1 per cent of GDP by 2023-24". That is a substantial deviation from the originally planned return to surplus in 2016-17, although it is not yet clear whether the government will accelerate consolidation in next year's budget.

Budget revisions now include more stringent assumptions that reflect the ongoing economic slowdown driven by a weakened terms of trade. It also includes sluggish activity in the non-minerals sector and long-term competitiveness challenges to which structural and policy responses are still evolving.

The recently constituted Commission of Audit is likely to play a crucial role in the design of this government's medium-term fiscal policies. But much depends on whether the commission's recommendations raises the productivity of fiscal expenditure in the years ahead, boosting infrastructure and growth potential while also enabling a sustained compression of the deficit.

Despite the fiscal deterioration, Australia's general government debt burden is still forecast to remain well below the 'AAA' peer median of 46% of GDP for the foreseeable future. It is also considerably lower than the 80%-90% range that is normally the upper limit compatible with retaining a 'AAA' rating, provided the debt burden is then placed on a firm downward path and other fundamentals are of the highest credit quality.

In contrast, New Zealand's own half-year economic and fiscal update indicates that its prospects have improved significantly. The authorities now project a small fiscal surplus by 2015, and expect to begin paying down debt from 2016, barring any significant adverse shocks. We think it will still require an extensive consolidation effort for New Zealand's general government debt - which roughly doubled since the global financial crisis - to get back to its 2008 level.

Much of the improvement results from a rise in growth prospects related to New Zealand's improved dairy-driven terms of trade and the Canterbury rebuild. The authorities now expect GDP to average 2.6% yoy in the next five years, up significantly from around 1% in the preceding half-decade. Growth on the basis of improved terms of trade could remain volatile due to the concentration of agricultural products in New Zealand's exports.

Despite improving trends in New Zealand's government finances, overheating risks persist. In particular, strengthening domestic activity could fuel larger current account deficits and raise gross external debt, which remains higher than for 'AA' peer medians.

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