Cost of living crisis: OECD warns Government actions to fight inflation should be 'more targeted' as further COVID, Ukraine impacts could spell trouble

The New Zealand Government should ensure any further support to fight the cost of living crisis is "more targeted" than previous measures, the OECD warns. 

The Organisation for Economic Cooperation and Development (OECD) released its first 2022 economic outlook on Wednesday night, projecting global growth to decelerate "sharply" over the next two years due to war in Ukraine and ongoing COVID-19 effects. 

It painted a dire picture of inflation globally, saying high prices are "eroding household incomes and spending, hitting vulnerable households particularly hard." 

In some countries, inflation is expected to hit its worst levels since the 1970s and won't ease until the impact of rising interest rates is felt.

"Countries worldwide are being hit by higher commodity prices, which add to inflationary pressures and curb real incomes and spending, dampening the recovery," OECD Secretary-General Mathias Cormann said.

"This slowdown is directly attributable to Russia’s unprovoked and unjustifiable war of aggression, which is causing lower real incomes, lower growth and fewer job opportunities worldwide."

The OECD said protecting low-income households from the rising costs should be an "urgent priority" and this should be done through "temporary, well-targeted, means-tested fiscal measures".

The report painted a dire picture of the global situation.
The report painted a dire picture of the global situation. Photo credit: Getty Images.

The report specifically analysed New Zealand's economic situation and made note of the Government's Budget 2022 announcement to extend cuts to the fuel duty tax, road user charges and public transport fares, as well as the $350 cost of living payment.

However, it said future measures by the Government should be more narrowly focused. 

"In order to avoid fuelling inflationary pressure in the near term, any additional fiscal support against higher living costs should be more targeted. The Government should also consider deferring some of its infrastructure investment."

Anyone who made $70,000 in the last tax year and who isn't eligible for the Winter Energy Payment will receive the $350 cost of living payment from August at a rate of about $27 per week for three months. 

In announcing the measure at the Budget, Finance Minister Grant Robertson said it was important to support low- and middle-income New Zealanders who weren't assisted by the Government's April 1 increases to benefits, tax credits and the minimum wage. 

But while Robertson called the scheme "targeted", advice published by Inland Revenue showed Treasury had "recommended against progressing a broad-based payment, instead recommending investigating a more targeted form of support to lower-income households". 

"A broad-based one-off payment of this magnitude would add to inflationary pressures in the short-term, although the risk to longer-term inflationary pressures is relatively small assuming any interventions of this nature were temporary," Treasury said. 

"There are other Government priorities that could be pursued using the funding for this payment, for example, initiatives that more directly impact on interim child poverty targets."

Robertson later told reporters that it was not unusual for him to disagree with Treasury advice. 

"We decided that we did want to do something to be able to work through [cost of living] for a wider group of New Zealanders, but that was also affordable for the country as a whole. That's why we settled on the package."

National, which is currently ahead of the governing Labour Party in most polls, has proposed scrapping the 39 percent tax rate on those earning more than $180,000 and also adjusting tax thresholds to inflation.

The cost of living payments were announced in the Budget.
The cost of living payments were announced in the Budget. Photo credit: Getty Images.

The OECD report said New Zealand would see real gross domestic product (GDP) growth of 3 percent in 2022 and 2 percent in 2023, with high inflation and rising interest rates weighing on private consumption. 

"Economic growth will slow but remain solid as pent-up demand during the surge in COVID-19 infections in early 2022 is unleashed and gradual reopening of the border allows the tourism sector to recover. Inflation will decline in 2023 but remain high, as firms pass on global commodity price inflation and workers demand higher wages."

It agreed global factors as well as a "very tight labour market" had had a significant impact on inflation.

"Although the direct impacts of the war on Ukraine on economic growth are limited given the small shares of Russia and Ukraine in New Zealand’s trade, the indirect impacts through higher fuel and commodity prices have rapidly increased costs of inputs and living, weighing on business and consumer confidence."

Inflation hit 6.9 percent in the year to March, the highest since 1990. The Budget Economic and Fiscal Update (BEFU) in May said that was the result of strong domestic demand, as well as global factors like supply chain issues and the war in Ukraine. BEFU showed inflation would remain outside of the Reserve Bank's targeted range until 2025. 

New Zealand's Official Cash Rate (OCR) was lifted by 50 basis points last month to 2 percent. The Reserve Bank pushed up its OCR track, expecting it now to peak at 3.9 percent over 2023 and early 2024, before easing.

On inflation, the RBNZ expects it to peak at 6.9 percent in 2022, before falling to 4.4 percent in 2023, 2.5 percent in 2024 and 2 percent in 2025. The RBNZ's target range is between 1 and 3 percent. 

If there was an outbreak of a "more virulent COVID-19 variant", the OECD said the recovery of private consumption could be stifled. 

"A further escalation in the war in Ukraine and sanctions against Russia could bring about higher and more persistent inflation and weaker external demand. Prolonged lockdowns in large cities in China, New Zealand’s largest export market, would also reduce exports and add to inflationary pressure by exacerbating disruptions in global supply chains. 

"Conversely, China’s shift toward a less stringent COVID-19 policy would boost exports and alleviate supply chain disruptions."

The OECD supports monetary policy - which the RBNZ is responsible for - being tightened to get inflation into the target band. 

"The faster increase in the OCR in the near term and the start of quantitative tightening are adequate and signal a strong commitment to price stability."

But Government policy shouldn't put the burden for stabilising the situation simply on monetary policy, the report said. 

Reserve Bank Governor Adrian Orr.
Reserve Bank Governor Adrian Orr. Photo credit: Getty Images.

Other measures the OECD recommended to ease inflation pressures and skill shortages include supporting the inflow of migrant workers when the border full reopens by "ensuring the smooth implementation of the new work visa and employer accreditation system".

The Government unveiled a new "Green List" last month with two new pathways to residency. But concerns were raised by the Opposition over Immigration NZ's ability to process applications. Immigration Minister Kris Faafoi said he's been assured they will be sorted promptly, but will get "grumpy" and tell officials to put more "effort into it" if they're not. 

The OECD also supported the Government taking "swift and concrete" actions to enhance competition in the grocery sector, something Commerce Minister David Clark has introduced legislation in the House to do. Cabinet papers also show officials are doing a cost-benefit analysis on forcing the supermarket duopoly to sell some retail stores. 

Other comments by the OECD include:

  • the Government should strengthen the domestic pipeline of digital skills by "letting regulations evolve with technological change"
  • the recently announced new fiscal rules to maintain small surpluses and cap net debt levels will "underpin long-run fiscal sustainability in the face of population ageing and rising healthcare expenditure
  • "Rising carbon prices and complementary measures will be needed for New Zealand to meet its abatement objectives"