The Beauty of Creative Accounting
When an organisation is confronted with a situation that could be misunderstood by shareholders, customers or voters it is essential that the organisation manage the release of that information in a manner that minimises the risk of an overreaction from those shareholders, customers or voters.
The New Zealand Government was recently challenged by this very dilemma. New Zealand’s second most populous City was devasted by the most damaging (per capita) natural disaster in the history of the OECD. Occurring during the depths of the Global Financial Crisis it would have been especially imprudent for the Government to respond with the usual excesses of socialistic generosity towards disadvantaged residential property investors that are characteristic of left wing governments such as Japan and the United States of America under George W. Bush. Such profligate use of taxpayer funds would have placed the New Zealand Governments AA+ credit rating at unacceptable risk. However, with an election looming the Government had to gie the impression of being compassionate and generous whilst actually acting with great fiscal prudence.
New Zealand’s statutory requirement for Government’s to produce “no surprises” budgets means that when the current government commits future governments to spend money those future liabilities must be included in the current accounts as though all of the future commitment had been spent in the current financial year. By contrast, revenues may only be included in the year in which they are actually receipted.
Thus the Government was able to tell voters that the earthquakes were seriously hurting the nation whilst receiving a generous response from central government, without having to tell lies and with the confidence that the international credit ratings would check the full facts and assess the Governments credit rating based on the longterm fiscal impact.
A year later and the circumstances have become even more convenient for keeping socialist voters satisfied without offending fiscally prudent voters. Independent loss assessors have concluded that EQC’s claims exposure could exceed EQC’s reserves and reinsurance cover by up to $1.5bn. Fortunately, the total estimated cost of reconstructing Christchurch has also increased resulting in a $1.5bn increase in GST levied on the reconstruction. If the EQC loss assessment is pessimistic then the Government could achieve a surplus of $2.2bn. But its maximum deficit would still be $2.2bn.