We can only hope that New Zealand’s politicians had a good break over the summer because 2025 promises to be a hell of a ride.

If the government thought last year was tough, this year will be even more demanding. The economic storm clouds that gathered over New Zealand in 2024 are now directly overhead.

The final weeks of last year delivered some sobering numbers. Treasury forecasts showed that New Zealand’s debt burden will reach 45 per cent of GDP by 2029, nearly double the pre-Covid benchmark for prudent public debt.

At the same time, The Economist released its latest ranking of OECD economies. New Zealand placed 33rd out of 37 – only just ahead of Finland, Latvia, Turkey and Estonia.

The economy shrank by 1.0 per cent in the September quarter, the worst contraction since 1991 outside of the pandemic. Productivity remains stagnant. Per capita output has been in decline since 2022.

Treasury has identified a structural deficit of 2.7 per cent of GDP – that is a deficit which will not disappear when the economy improves but instead reflects a fundamental mismatch between government spending and revenue.

New Zealand is not in a debt crisis yet. But if nothing changes, it is only a matter of time.

The Luxon government spent its first year on some important reforms, especially in education, resource management and labour market regulation. These were welcome initiatives, but they are also mid to long-term solutions, and New Zealand does not have the luxury of time.

The most urgent problem facing New Zealand now is fiscal. If spending is not brought under control, the government will not be in a position to sustain its broader reform agenda, let alone implement the kind of tax relief that would boost economic competitiveness. It might not even get re-elected.

For all the government’s rhetoric about restoring discipline to public finances, government spending remains far above pre-pandemic levels. Core Crown expenditure is over 31 per cent of GDP. That is significantly higher than the 28 per cent recorded in 2019 when Jacinda Ardern’s government delivered her so-called Wellbeing Budget.

No one would have accused Ardern of austerity at the time. Yet bringing spending back to that level would require cuts equivalent to three per cent of GDP – around NZ$12 billion in today’s economy.

Despite the tough talk of public service cuts, they have barely happened so far. The only major structural change so far has been the abolition of the Māori Health Authority and the Productivity Commission (which immediately got replaced by a new, and larger, Ministry for Regulation). That is hardly the radical reset required to restore fiscal sustainability.

Meanwhile, government debt continues to rise with no clear target for reducing it. Before Covid, net debt of 15 to 25 per cent of GDP was considered prudent. That standard has now been abandoned. The latest Treasury projections suggest that by the mid-2030s, New Zealand will be on track to enter the kind of debt spiral seen in struggling economies.

Worse still, the government’s Budget Policy Statement does not outline a timeline for returning to fiscal sustainability. The Public Finance Act requires governments to define what they consider a prudent level of debt and how they plan to reach it. By failing to do so, the government is leaving itself exposed – not only to economic shocks but to legal challenges.

There may be a hope that stronger economic growth will somehow close the fiscal gap. But that is too optimistic. Remember, New Zealand’s fiscal problems are not cyclical. They are structural. No matter how well the economy does, the basic fiscal imbalance will not just disappear.

Either spending is reduced now in a measured, controlled way, or far harsher cuts will be forced upon a future government when markets lose confidence in New Zealand’s ability to manage its debt.

Raising taxes is not a viable option. The tax burden is already high by Asia-Pacific standards, and further increases would only accelerate capital flight and reduce investment. That leaves spending cuts as the only credible path forward.

A serious effort to reduce costs would have to address the ballooning cost of New Zealand Superannuation and health system expenditures. Those are politically difficult. But the structural deficit is substantial. Eliminating duplication, consolidating agencies, and identifying non-essential expenditure are unlikely to suffice.

The public sector wage bill would be the obvious place to start. In the Ardern years, the public service headcount went up from 47,000 full-time staff to around 62,000. Unfortunately, this expansion did not yield any better outcomes. Cutting it back now should be the order of the day.

The government must also reconsider its role as an asset owner and explore new infrastructure funding models. Yes, some assets are strategic, but private capital could be better deployed across many areas of the economy.

If New Zealand’s fiscal issues do not get addressed, the consequences will be serious. With debt servicing costs continuing to rise, they will crowd out essential services and leave future governments with limited policy options.

And government borrowing has consequences beyond its own finances, too. With large deficits, businesses will also face higher borrowing costs. That would mean investment decline and weaker growth.

Yes, the Luxon government has taken some good first steps in its first year. And the fiscal problems are not of its making but legacy issues of its predecessor.

But in its second year, Luxon’s government must now demonstrate that it is serious about turning New Zealand’s economic trajectory around. That means moving beyond incremental changes and embracing deep, bold and structural reforms.

Of course, the political temptation will always be to delay – to avoid hard choices in the hope that better economic conditions will make them unnecessary.

But waiting is not a strategy. It would only cause worse economic pain later.

New Zealand is heading towards a fiscal reckoning. The only question is whether the government takes action now to prevent a crisis or waits until it has no choice but to react to one.

To read the article on The Australian website, click here.