At the heart of a market economy is the act of spending. No one can earn income unless someone decides to spend. Sharp changes in the total amount of spending in an economy can cause severe problems. If spending falls, income falls and the number of people unable to get a job can increase. If spending grows too quickly, consumer prices are likely to rise, which can cause distress to people living on fixed budgets.
A large part of the economy is devoted to making it easier for people to spend. Consumer choice is wide in New Zealand – policy reforms in the late 1980s increased shopping hours, increased access to imported goods and increased the availability of credit to households.
Communication technology has created new ways to buy and sell goods, leading to online shopping sites such as New Zealand’s popular Trade Me website, and new forms of payment such as EFTPOS (or debit card cashback) and the online use of credit cards.
In 1987/88 private consumption spending by households worked out as $17,860 per person (in 2007/8 dollars). Twenty years later, it was $24,459, an increase of 36.9%. This figure suggests that young people had significantly more spending choices in the 2000s than their parents two decades before.
The government pays close attention to spending in the economy as a whole, and tries to ensure its decisions about taxation, and its own spending, do not disrupt spending growth.
Between 1989 and 2009 the Reserve Bank of New Zealand regularly adjusted monetary policy. It aimed to keep the level of total spending close to the country’s capacity to produce. It raised domestic interest rates when it judged spending was growing too fast, and lowered interest rates if it judged spending growth to be too slow.
The type of spending is also important. People spend for personal consumption, but they also invest money in things like new factories, transport systems or broadband technologies that may help generate new incomes.
Spending can be done by government, or, if it cuts taxes, private citizens get more to spend. People can choose to save money rather than spend it.
Public and private spending
In 2008 the largest category of spending was private consumption spending. This included household spending on items such as food, clothing, transport, education and recreation, as well as the cost of housing. Private consumption was 58.8% of gross national expenditure in 1987/88, and 57.9% in 2007/8.
In the 2000s total government consumption was much lower than private consumption – about one-third of the level of private spending. Government consumption included spending by ministries, departments, offices of Parliament and Crown entities (including the Accident Compensation Corporation, Transit New Zealand, the New Zealand Fire Service Commission, public schools and hospitals) as well as spending by city councils, district councils and regional councils.
Government consumption did not include spending by government trading organisations such as power companies, as these traded like commercial firms.
Fixed capital formation
Spending on investment is also significant. In New Zealand private and public gross investment includes ‘fixed capital formation’ – spending on new buildings, new motor vehicles, new plant and machinery, roading and land improvements – and the construction of new homes. It does not include spending on replacing assets that have worn out and are no longer productive.
Fixed capital formation expands the capacity of an economy to be productive, and is an important source of economic growth.