Business regulatory environment
The regulatory environment facing business will usually be a significant influence on the willingness of firms, domestic and foreign, to invest in a country. In trying to understand why the level of business investment has not been higher, and has not been at levels consistent with beginning to close the income gaps with other developed countries, the state of the regulatory environment is an obvious candidate.
New Zealand undertook extensive regulatory reform and liberalisation, of world-leading quality in many areas, in the decade or so from the early 1980s. A much higher reliance on competition and market forces, rather than government fiat, helped create, on this dimension, a favourable business environment. Deregulation encompassed labour market liberalisation, abolition of import licensing, substantial reductions in tariffs, the introduction of competition to network industry sectors, and so on. It also involved the government consciously pulling back from attempting to “pick winners” - sectors or strategies or firms.
But since the mid 1990s, there has been a real loss of reform momentum, and material steps backwards in some areas. Most other OECD countries have continued to improve. The OECD calculates detailed index measures of regulatory structures across countries. On the best known of those measures - that for product market regulation - New Zealand is now rated not much better than the middle of the pack, well behind countries with the best regulatory environments, the United States, the United Kingdom and Canada. Those three countries are very different in many respects - size of government and welfare system among those differences - but they highlight that good, empowering, regulatory environments for business can be created in all sorts of different countries. In respect of labour market regulation, New Zealand was the only OECD country to materially increase the extent of regulation of the labour market this decade.
- Figure 15: OECD Product market regulation index, cross-countries
- Source: OECD, Product Market Regulation Database
For a country starting out with whatever handicaps distance and size might impose, and already lagging badly in terms of the incomes its citizens are able to generate, this gap between our regulatory standards and international best practice is likely to have made a material difference.
There has been little sustained reform since the early-mid 1990s, in a period when most of the rest of the OECD has continued to liberalise markets. There were tax cuts in the mid-1990s, but then the maximum marginal tax rate was raised in 2000 adding significant complexity to the tax system and, by not adequately enforcing boundaries between different types of income, undermining its integrity. Competition was introduced for the provision of insurance for work injuries in 1999: this modest reform was then fully reversed by a new government in 2000. Gradual foreign trade liberalisation has continued, both in the form of unilateral tariff reductions and through various free trade agreements. However, the 1990s legislation that would have seen all tariffs lifted by 2006 was repealed, and more slippage has occurred this year with the decision to delay any further unilateral tariff reductions until 2015.
Successive changes to employment law and to the Holidays Act, and substantial increases in minimum wages (including shifting young people from the previous youth minimum wage onto the much higher adult minimum wage), have undermined the flexibility and effective functioning of the labour market. The passage of legislation to allow Fonterra to form, and especially to do so without proper market disciplines and transformation into a conventional company structure, will almost certainly be seen by history in the same light.
There have been no material state asset sales since 1999, and indeed the government has actually increased its overall ownership of business assets, as the dominant shareholder in Air New Zealand, founder and owner of Kiwibank, and owner of KiwiRail and the rail track. And the constraints imposed by the Resource Management Act, and the associated “smart growth” approaches increasingly favoured by those administering the Act, appear to have become increasingly binding and costly, for all sorts of investment, including the supply of new housing.
In addition, there has been an increasing number of examples of the use of incentives or subsidies to encourage behaviours considered desirable by governments. KiwiSaver subsidies, research and development tax credits, and grants, loans and tax credits for various favoured or apparently promising industries, all tend to discourage the most efficient and productive allocation of resources. At best, they appear to respond to symptoms rather than underlying policy weaknesses and constraints.
This story is consistent with the results of many surveys of international economic performance and the business environment that show slippage in our relative (and sometimes absolute) position. On many of these measures we still do at least as well as Australia. In most areas Australia has policy frameworks that are quite good, but are typically well short of world best practice.
Even in the last year the record has been mixed. To take just one example, allowing probationary periods for new employees in small firms was a modest step in the right direction. But it was difficult to see the case for a large increase in the already-high minimum wage in the middle of a recession, with substantial job losses taking place.
- Figure 16: Economic Freedom of the World index
- Source: Fraser Institute
In addition to increasing concerns around the application of the Resource Management Act, there have been other indications that our institutions may provide insufficient protection for the rights of private property owners. Two prominent examples in recent years include moves taken by the previous Government quite directly to prevent shareholders in the Auckland airport company selling their shares to a foreign investment fund, and moves to alter the regulatory structure in the telecommunications sector in a way that deprived shareholders of a very substantial portion of the value of their shares without compensation.
Reasonable people may differ on the appropriate regulatory structure for the telecommunications sector. The point here is not the substance of the policy choice, but that such regulatory action, especially when taken without providing compensation to affected parties for their losses, creates substantial uncertainty, and may seriously undermine the willingness of domestic and foreign savers to invest in building businesses in New Zealand. Media reports suggesting officials had recently been considering options that might force Telecom and other companies to make core infrastructure available to local fibre companies, and that the relevant Minister refused to rule out such an intervention, raise similar concerns about whether the lessons of the previous intervention have been fully absorbed. Land cannot be taken under the Public Works Act without compensation, and we think that the adverse impact of other regulatory or legislative initiatives that remove or reduce some private property right needs to be taken considerably more seriously.
We have also noted a sense that the overall regulatory environment is subject to too much uncertainty, with too much chopping and changing of policy regimes. We have heard senior business figures, including executives of companies operating around the world, commenting that in some respects the choice between proposed regulatory regimes matters less than greater stability and certainty. Our impression is that in recent years the uncertainty around telecommunications regulation, electricity regulation, water rights, emissions trading, forestry conversions and, in the dairy industry, effluent disposal cannot have helped encourage a favourable climate for business investment. Getting policy frameworks right matters, and innovation is important in the regulatory area, but in making changes there needs to be some balance struck between the benefits from improving the policy regime on the one hand, and the benefits of certainty and predictability for firms on the other. Comprehensive cost-benefit analyses and rigorous regulatory impact assessments would help.
The Resource Management Act is a specific example of a piece of legislation that appears to have acted as a barrier to New Zealand realising its full potential, slowing both investment and productivity growth. Allowing such a wide range of objectors, and not requiring either objectors or the determining authorities to give material weight to the costs to others of the stances they are taking, comes at considerable cost to the entire economy. The long-running case in Auckland, in which one supermarket chain was able to prevent a competitor opening a new store for 17 years, should stand as a national disgrace. Recent changes to the Resource Management Act have made a start on reducing some of the costs and delays but there are material questions as to how much of an improvement those changes will make, and suggestions that in some areas the changes actually represent a step backwards.
Similar issues arise with processes under which new biological organisms and plant cultivars are allowed into New Zealand, and with policy on the scope for allowing genetic modification in agriculture. These are sectors in which New Zealand seems to have, at present, its greatest comparative advantage and yet regulatory structures appear to stand in the way of innovation, and the application here of foreign innovations. It has been suggested that permission would be refused if it was proposed today to introduce to New Zealand the plant material from which the kiwifruit industry subsequently developed. If that is a fair characterisation of the constraints in place it is deeply troubling.
