Austerity in the Cook Islands: A cautionary tale

Dr Geoff Bertram tells of damage done to the Cook Islands through an austerity package dictated by New Zealand and other creditors during its 1990s debt crisis.

Image of Cook Islands money
Budget rules in the Cook Islands have prevented the tourism sector’s prosperity "trickling across" to government through increased taxation.

In a talk to the Wellington branch of the Fabian Society, Dr Geoff Bertram said his cautionary tale of the Cook Islands – and the "arbitrary" fiscal limits at its heart – was one New Zealand’s Minister of Finance, Grant Robertson, would do well to bear in mind, given his self-imposed budget responsibility rules and pledges to keep government spending at 30 percent of gross domestic product (GDP) and to reduce government net debt to 20 percent of GDP by 2022.

In the journal article his talk was based on, Bertram, a Senior Associate in the Institute for Governance and Policy Studies, has urged New Zealand to help ease the Cook Islands’ budget restrictions in order to return the country to economic self-sustainability.

The restrictions had starved its government of resources and had resulted in the "private opulence and public squalor" characterised by economist JK Galbraith in his book The Affluent Society, Bertram told his Fabian Society audience.

They had meant that, despite a booming tourism sector that had pushed the balance of payments into a $154 million surplus (i.e. fast approaching 40 percent of GDP), the only way the government could fund urgently-needed infrastructure investment and sustain its public services was through overseas aid, mainly from New Zealand.

And so, after decades of falling reliance on such aid, it had jumped from less than $10 million a year before 2005 to $20 million a year in 2006–10, over $30 million a year in 2011–16 and over $60 million in each of the past two budget years.

This still only represented 10 percent of Cook Islands GDP, but that was up from 3 percent in 2000.

New Zealand’s aid contribution, which in 1965 accounted for nearly two-thirds of GDP, bottomed at 1.3 percent in 2009; it was now 6 to 7 percent, said Bertram.

Origin of the fiscal rules

The fiscal rules date from 1996–98, when, in a meeting in Manila in the Philippines, creditors New Zealand, the Asian Development Bank and Nauru insisted that, in return for writing off half a debt the Cook Islands had accumulated through “profligate adventurism” and was set to default on, the government accept the following voluntary but binding limits on its budget:

  • Tax revenue should not exceed 25 percent of GDP ("unless due to better compliance and efficiency")
  • Public sector wages and salaries should be capped at 44 percent of total revenue, falling to 40 percent over time
  • Debt servicing should not exceed 5 percent of total revenue
  • The overall budget deficit should not exceed 2 percent of GDP
  • Net debt should not exceed 35 percent of GDP

Bertram said the creditors had done "that thing neoliberals love to do: they imposed rules with numbers in them that, however arbitrary, became enshrined in stone".

The rules were based on the principle of "starving the beast" – a term coined in the mid-1980s by a member of US President Ronald Reagan’s administration, referring to a political strategy used by budget hawks to limit government spending by cutting tax and therefore revenue.

"If you’re going to go with rules of that sort, the important thing is they should be sustainable. And they must be feasible given the constraints a government faces in the real world," said Bertram.

The Cook Islands’ rules were neither, he said, asking where, in that case, the money for essential spending comes from.

"It comes from aid. Which means that once again you are into aid-dependency politics."

The Cook Islands were left reliant on the good will and instructions of those providing its aid, said Bertram, and "this is colonialism reborn out of an austerity package."

Signs of widening income and wealth inequality

Aid was subsidising "free-rider" booming tourism operators and other Cook Islands taxpayers and propping up the "temporarily successful but ultimately unsustainable ideological project of a limited state sector", said Bertram.

And although the budget rules prevented the tourism sector’s prosperity "trickling across" to government through increased taxation, it was not "trickling down" to the wider economy either.

There were signs of widening income and wealth inequality, with incomes stagnating for most people even though GDP was rising.

The private sector had not picked up the slack in infrastructure funding, despite the pressure on that infrastructure being a consequence of rapid tourism-led economic growth. Roads falling apart, the water system needing replacing, sewerage arrangements failing, the electricity system running down, the landfill overflowing ... "you can go on – there’s a massive infrastructure deficit".

Not being able to hold the budget rules line because of the "inexorable need" for more investment, the government has, in the past five years, strayed over the line.

"You might think, 'Oh right, they’ve escaped'. It doesn’t mean they’ve escaped at all … The fact they are pulling their leash like a dog on an extendable leash doesn’t mean they’re not on a leash."

Bertram’s talk was based on Why Does the Cook Islands Still Need Overseas Aid?, published earlier this year in The Journal of Pacific History.

In the article, he argued that the challenge was "to relax the tax ceiling without throwing away the Manila fiscal framework entirely – to avoid, in other words, throwing out the baby with the bathwater".

"Here is where the 1998 creditors – now reduced to New Zealand and the Asian Development Bank, both of which are ongoing aid donors – have a clear role to play. If they were to initiate discussions around relaxing the 25 percent ceiling on tax revenue, plus easing the limits on public sector pay and debt servicing, while leaving the net-debt limit unchanged, this would represent a major step towards fiscal sustainability for the Cook Islands Government.

"Given the rhetorical support for sustainable economic growth from these creditors, it would be useful to see those words translated into action via an abandonment of the extremist small-government ideological agenda, while still maintaining support for fiscal prudence."

In concluding his talk, Bertram made these points.

"Ill-conceived rules, especially ones with only ideology rather than common-sense underpinning them, can easily do more damage than just trusting democratically-elected governments to judge what is needed and justifiable.

"Discretion eventually dictates a breakout from unsustainable rules that restrain the public sector from effectively performing its essential functions.

"Grant Robertson, please note."