Newsroom Pro's 8 things: The funding mismatch behind NZ's infrastructure deficit; A systemic water quality crisis; Market studies on fast track

In today's email we detailed the problems with New Zealand's water supplies.

1. Who will pay to fix a 'systemic failure'?

There were many problems revealed in yesterday's second report on the Havelock North gastroenteritis outbreak, but the biggest was not talked about much in the subsequent debate about how to fix the "widespread, systemic failure" of the Ministry of Health and councils to both monitor and supply safe drinking water.

That problem? Who will pay to fix it and how.

Yet again, the central Government has identified local environmental problems and is set to create and enforce higher national standards that local councils will have to build the infrastructure for, and more importantly, pay for.

They in turn will have to use their single revenue raising tool, property rates, to pay for the better infrastructure, either directly with higher rates or by indirectly with higher rates to service higher debt. Those councils in high growth areas (Auckland, Hamilton, Tauranga and Queenstown) are already near their debt limits and are unable to borrow much more without significant rates increases that are often politically impossible.

In Auckland's case, it also can't borrow more without forcing a credit rating downgrade across all councils, and possibly the entire nation, that would put up everyone's interest bills. That's because Auckland is the dominant borrower within the Local Government Funding Agency and effectively sets the baseline for credit ratings all Councils. It is also so big that the credit rating agencies may decide any Auckland downgrade would endanger New Zealand's sovereign credit rating.

New Zealand has accidentally arrived at a set of governing and funding arrangements where the central Government in Wellington sets the national standards and raises the overwhelming bulk of tax revenues, but it is local Government that has to deliver and fund the infrastructure to meet those standards.

This mismatch has driven much of the under-investment in the infrastructure needed for massive amounts of new house building and the need to improve quality of drinking water and natural water bodies such as lakes and rivers.

It has helped lead to an almighty blockage, where central and local governments blame each other for failures to build or maintain the necessary infrastructure, and neither stumps up the money to build it. Voters blame both for the failings, but are also unwilling to stump up the higher rates and income taxes to pay for the infrastructure. The end result is nothing seems able to break this logjam in the political economy, and housing affordability and water quality deteriorate.

The only time it has been broken in recent years was because of the Christchurch earthquake. An act of god forced the central Government to use those centralised pots of revenue and a strong balance sheet to fund the rebuilding of underlying infrastructure needed for the city to rebuild and operate. It's no accident that Christchurch is well on its way to solving its housing supply shortage because the central Government stumped up billions to build the underlying infrastructure (although Christchurch also has massive unsolved and unpaid for problems with its drinking, waste and storm water systems). House price inflation has been much lower in Canterbury over the last four years and rents have started falling.

The Government of the day (2008-2017) was able to point to acts of god (the earthquakes and the Global Financial Crisis) as the reason for borrowing heavily and increasing net Crown debt to GDP from nothing to over 23 percent of GDP from 2008 to 2016.

The current central Government has essentially tied its own hands to stop it from using the Crown's enormous balance sheet flexibility to borrow by promising to reduce net debt to 20 percent of GDP within five years. This is a slightly slower debt reduction track than targeted by the previous Government, but still leaves little room for the Government to use its balance sheet to solve this infrastructure deficit.

This funding mismatch between Councils and Government and the artificial limit on debt set by the Government will underpin many of the big debates of the next three years around infrastructure funding. The debate will come back to these key questions every time:

Who should have the power to raise tax revenues?

Who should borrow the funds necessary to build infrastructure needed for a fast-growing population?

Who should borrow the money and service the debt to pay to replace and rebuild ageing infrastructure needed for higher environmental standards?

The Councils want extra revenue raising tools to help pay for the extra debt and avoid big increases in rates. That has driven the recent debates about the need for some GST to be returned to the regions, or for regional fuel taxes to be paid to Councils. Auckland is about to get a 10c/litre levy to help it pay for public transport and Hamilton is reported by Stuff to have decided yesterday to ask for an 11.5c/litre regional fuel tax to help it reduce a planned 15.5 percent rates hike to nine percent.

The debate over a tourism levy to fund local infrastructure is also driven by this funding mismatch. Councils want centralised revenue raising mechanisms to pay for local infrastructure.

There seems few places for this debate to be resolved. It has cropped up time and again over the last 20 years, but few central Government politicians want to give up those powers to tax and spend to the regions, and the regions were first unwilling and are now unable to use their balance sheets to pay for infrastructure. Ratepayers and central Government politicians are also sceptical about their own Councils' ability to efficiently and cleanly handle any new taxing and spending powers if they had them.

The problem is now becoming acute because of the scale of the population growth seen over the last five years and the perceived (and in Havelock North's case real) need to improve water quality.

The new Labour-New Zealand First Government agreed in their coalition agreement to hold a public inquiry "A decade after Shand" to investigate the drivers of local government costs and its revenue base. The Local Government Rates Inquiry led by David Shand reported back to the then-Labour-led Government in August 2007 with this report. It recommended a share of GST be used to set up a contestable Infrastructure Equalisation Fund, and it proposed allowing Councils to charge more user-pays fees for water, coastal access and roads through tolls. Those proposals went nowhere.

We will see where the son or daughter of Shand might go.

2. A damning report

Newsroom's Sam Sachdeva covered the release of the report yesterday.

He wrote the report called for mandatory treatment of the country’s water supply, but that a battle was looming over the cost of making that a reality.

The previous Government launched a two-stage inquiry into drinking water in September 2016, following an outbreak of gastroenteritis in Havelock North linked to contaminated drinking water which made over 5000 people sick.

highlighted “a widespread systemic failure” to supply safe drinking water to the country, with 20 per cent of Kiwis supplied water that was not “demonstrably safe” to drink.

It said there were up to 100,000 cases of waterborne illness in New Zealand each year - although some thought the real number could be higher - while there was a degree of complacency from those tasked with managing the water supply system.

The inquiry had received a number of submissions and evidence indicating untreated drinking water was “unacceptably risky in today’s circumstances”, and recommended making it mandatory for drinking water to be treated.

It also recommended the creation of an independent drinking water regulator to monitor supplies around the country and crack down on offenders.

The report estimated the cost of replacing the country’s deteriorating water pipelines, some of which were at risk of collapse, at $2.2 billion.

Speaking after the report’s release, Environment Minister David Parker told reporters in the Beehive the inquiry had made a clear case for mandatory water treatment.

Parker said mandatory treatment was not as controversial as it used to be, with a number of cities with large populations making the change in the last year.
He acknowledged there would be a cost to mandatory treatment, and said the Government had not yet decided what funding, if any, it would provide for councils.

“Traditionally, providing drinking water has been a primary responsibility of councils and we don't see that as changing, although it is true according to the inquiry that some of the smaller populations if they’re left alone won’t be able to afford to do it, so we’re going to have to work through that.”

Parker said one of the report’s recommendations - to set up larger organisations to handle the water supply instead of leaving it to each local authority - would help to reduce costs.

"This doesn’t have to all be done overnight...this is an affordable problem for New Zealand to overcome.”

He repeatedly made it clear that the Government believed the issue was primarily one for local, rather than central, government.

“The primary duty of delivering clean water goes on the people who are delivering it...every mayor in the land should be reading the report and they should be reinforcing the importance of this report to their councillors and to their chief executives and to their water bodies - that is where the line of responsibility should start.”

However, he acknowledged the inquiry’s findings that the Ministry of Health had “effectively failed New Zealanders” by not doing enough to uphold drinking water standards.

3. Millions unspent on tourist driver project

Newsroom's South Island correspondent David Williams has the scoop this morning on how only $4 million has been spent out of a $25 million plan announced two years ago make the nation's tourist routes safer.

Williams reports questions are also being asked about the project’s effectiveness and why some money has been funneled into building car parks, a walkway, and viewing platform.

In December 2015, after a string of horrific crashes involving overseas drivers and a rise of citizen vigilantes taking keys off the drivers of rental cars, the Government announced it would spend $25 million on the Visiting Drivers Project “to help improve the safety for visiting drivers”.

Of that, $15 million was to be spent on road safety engineering works on state highways in Otago, Southland, and the West Coast. Another $8.75 million was earmarked for work on local roads, if the money was matched by councils, with up to $1 million for an education and social media campaign.

Not much has been spent so far. NZ Transport Agency figures obtained by Newsroom show $2.75 million has so far been spent on state highway work, $750,000 on an education and social media campaign, and $500,000 on local roads.

See David's full report here on Newsroom.

4. Briefly in our political economy...

Studying the Gull effect - Energy and Resources Minister Megan Woods announced the early release of MBIE's Financial Performance Study on the fuel industry, which had been ordered by her predecessor Judith Collins because of concerns the retail petrol market was not competitive. The report found retail fuel gross margins increased by 13 cents per litre over the last four years, which could not be explained by increased capital expenditure over that period and had not been matched by gross margin increases in markets for aviation, marine, bitumen, commercial fuel. MBIE also pointed out retail gross margins had grown significantly faster in Wellington and the South Island, where the dominant market players Z Energy, BP and Mobil don't have to compete with Gull.

"The potential wealth transfer from consumers to fuel suppliers since 2008 is likely measured in the hundreds of millions of dollars per annum. Therefore, MBIE consider that further examination is warranted," it said.

In April last year the Commerce Commission cleared Z Energy's takeover of Caltex despite a dissenting opinion from Commissioner Jill Walker, who was previously a commissioner with the Australian Competition and Consumer Commission. She concluded that "there is evidence to suggest that coordination of retail prices is already occurring in some local markets, which would become more firmly entrenched with the merger."

The report recommended the Government give the Commerce Commission the power to do a market study (which it does not yet have). Minister of Commerce and Consumer Affairs Kris Faafoi said he had asked officials to fast-track work to enable the Commerce Commission to undertake market studies. This power compels companies to provide information to the Commerce Commission to fully understand how markets are functioning. This power was used to great effect when it was carved out and applied by the Commission for the telecommunications industry.

Tough news for dairying regions - Already facing prospects of a drought, farmers in the regions woke up this morning to find Fonterra had announced it had cut its farmgate milk payout forecast by 35 c/kg to $6.40/kg. This followed news last week Fonterra had cut its earnings per share forecast by 10c/share for fully shared up farmers. Fonterra cited high production out of Europe and the release of stockpiles of milk powder by the EU. The New Zealand dollar fell under 69 USc on the news.

House values rising again - Quotable Value reported this morning that annual house value inflation rose to 6.4 percent in November from 3.9 percent in October. It reported nationwide values rose 3.6 percent over the last three months, which is also much faster than last month's quarterly growth rate of 0.9 percent. House value inflation was 0.5 percent in Auckland from a year ago, but also rose 0.5 percent in the last three months. The average value for the Auckland region was slightly higher than last month at $1.046 million and up 91.4 percent from the previous peak in 2007.

A sunny outlook again - QV National Spokeswoman Andrea Rush said it appeared the spring/summer upturn had finally arrived, pointing to growth in the last three months in Wellington (3.4 percent), Dunedin (2.8 percent) and some other regions. Auckland had also perked up, she said.

"The easing in LVR restrictions in January and retail banks lending criteria is likely to help improve activity and demand in housing the market as we move through the summer months but it’s possible the usual slow-down over the Christmas period may mean we don’t see the full impact of this until February and March next year," she said.

Confidence drop - The Employers and Manufacturers' Association reported its late 2017 survey of employers found net confidence about the wider business outlook fell to minus four percent expecting improvement in the first half of next year. This was down from positive 43 percent a year ago. However, employers are more confident about their own businesses, with a net 49 percent expecting improvement, albeit down from a net 64 percent a year ago.

Cooling labour market - ANZ reported its monthly measure of job ads found a 0.1 percent fall in November from October. Annualised growth over the last three months slowed to 7.7 percent from 8.9 percent, with growth in Auckland slowing the most to a five-year low of 2.2 percent. Canterbury and Wellington slowed to 5.8 percent and 7.9 percent respectively.

"Job ads are perched at high levels, but growth rates are easing," said ANZ economist Kyle Uerata. ANZ's business confidence survey released last week showed hiring intentions falling 17 percentage points to a seven year low in November.

"The economy is delicately placed, and near-term risks are tilted downward," Uerata said. "However, there are still reasons for optimism and we are maintaining a core view that any near-term growth wobble won’t turn into something longer-lasting."

5. Briefly in the global political economy...

US President Donald Trump recognised Jerusalem as the official capital of Israel, causing outrage from Palestinians and defying warnings it would cause more unrest in the Middle East. (Reuters)

Elsewhere in the United States, Trump warned of a US Government shutdown by the weekend if the Congress cannot agree a fresh spending bill by late on Friday. (Reuters)

Vladimir Putin confirmed he would run for a fourth time to be the President of Russia in March and is expected to win easily. (New York Times)

The official newspaper of a Chinese province adjoining North Korea published a full page of advice about what to do in case of a nuclear explosion or radioactive fallout. (New York Times)

China accused Australian officials on Wednesday of “making irresponsible remarks” and damaging “mutual trust,” a day after Prime Minister Malcolm Turnbull unveiled a series of proposed laws to curb foreign influence in Australian politics. (New York Times)

Jacinda Ardern told journalists in Parliament yesterday in response to Anne Marie Brady's call for New Zealand to adopt Australia's stance that New Zealand did not need to. "When it comes to some of the issues that have been raised in Australia, I haven't seen evidence of the kinds of issues they are talking about here in New Zealand. That's not to say we should be complacent. We have to be vigilant and we are," she said.

Australian GDP grew a weaker-than-expected 0.6 percent in the September quarter and was up 2.8 percent for the year after consumer spending growth of 0.1 percent was the weakest in nine years. (SMH)

6. Coming up...

The Government is scheduled to release its Briefings for Incoming Ministers (BIMs) at midday today.

Regional Economic Development Minister Shane Jones is scheduled to give his first major formal speech in Tauranga early this afternoon.

There’ll be a notice of motion in Parliament later today to mark the retirement from the Press Gallery of Ian Templeton after 60 years in the Gallery. That's 60 with a six and a zero.

Statistics New Zealand publishes its wholesale trade survey for the September quarter, which is another component of the GDP figures due on December 21.

Jacinda Ardern said she would announce the full details of the Government's families package and her Poverty Reduction Bill next week , both of which were elements of her 100 day plan.

7. One fun thing

Russia's expulsion from the Olympics got the twitter comedians going last night.

HaveIgotNewsForYou: "Russians banned from representing their country at the Winter Olympics, although they’ll still be allowed to participate in the next US elections."

8. The morning links summary

This is available with the morning subscriber email