NSW to use $28bn Debt Retirement Fund to help reduce COVID-induced debt issuance

Christopher Joye

Coolabah Capital

There are several recent developments in this important story, which I originally covered here. On Friday I wrote in the AFR that the NSW Treasurer, Dominic Perrottet, appeared set to deliver on his promises to recycle the circa $28 billion in rainy-day funds he has set-aside to ensure future generations are not saddled with unnecessary debt. 

Recall Perrottet created the NSW Generations Fund, and its subsidiary Debt Retirement Fund, back in 2018 to act as a huge future fiscal shock-absorber in the event that a serious crisis hit, and NSW’s debt and deficits exploded.

At that time, the NSW budget was running a circa $4 billion surplus and net debt was negative. Following the 1-in-100 year pandemic, the budget has registered record deficits and public debt has erupted from $35 billion in 2018 to around $120 billion this year.

Perrottet set-aside some surpluses plus the proceeds of the sale of the first half of WestConnex in the Debt Retirement Fund. More than $13 billion of cash is expected from the sale of the second-half next month.

While there has been criticism that this plan was going to be hijacked by bankers and fund managers hoping to turn NSW’s balance-sheet into a huge leveraged hedge fund, NSW Treasury Secretary Mike Pratt repeatedly signalled in parliamentary estimates last Friday that he will recommend using the Debt Retirement Fund’s $28 billion to help reduce NSW’s deficits, slash taxpayers’ debt, and pay for infrastructure.

John Kehoe reported in the AFR on Monday that:

NSW Treasury Secretary Michael Pratt revealed on Friday that the “unique” unforeseen budget pressures caused by COVID-19 meant he would submit options to the Treasurer about adjusting the NSW Generations (Debt Retirement) Fund strategy, including using it for “debt clearance”.
Proceeds from the coming sale of 49 per cent of the WestConnex toll road – estimated at $13 billion – would be immediately paid into the fund as required by legislation, but some revenue could then be diverted to reduce the state’s rising debt.
“The government has choices,” Mr Pratt said, in response to questions from Labor shadow treasurer Daniel Mookhey at a parliamentary committee meeting.
“It will be time to reflect on what is the optimal size of the fund, should government actually retire some debt earlier or not. These are things I’ll be looking at,” Mr Pratt said.
NSW Treasury secretary Michael Pratt is preparing advice for the Treasurer.
“I would say the Treasurer obviously has ongoing options about those issues and also about whether future money could be used directly for debt clearance which is the purpose of the fund.”

Perrottet is expected to deliver on his commitment to recycle the $20 billion plus in total WestConnex sale proceeds to help fund the $108.5 billion in infrastructure spending that he has signed-up for over the next few years.

While this would draw-down on the Debt Retirement Fund to cauterise a once-in-a-century calamity, NSW's rainy-day buffer will be appropriately topped back-up by future budget surpluses and asset sales to aid the next one.

Perrottet could consider several specific solutions. 

First, the NSW budget has over $7 billion in commitments to investment funds this year, plus north of $12 billion over the next few years. These can be deferred until the budget is in a cash surplus. This follows Peter Costello’s principle of only diverting cash to sovereign wealth funds when you are producing surpluses.

Second, NSW was funnelling substantial income to the Debt Retirement Fund, which could be channelled back to the budget, which is where it belongs at a time like this. Finally, NSW can have the Debt Retirement Fund buy NSW-issued debt, which is permitted under its legislation. NSW can then use this money to pay for infrastructure, COVID stimulus, and to compress the large deficits that would otherwise accrue.

In this way, taxpayers in the past help taxpayers in the present, who will support taxpayers in the future when the Debt Retirement Fund is replenished.

Foreshadowing these moves, NSW's debt management agency, TCorp, highlighted in remarks to the AFR last week that in prior years NSW has actually materially downgraded its prior debt issuance forecasts.  

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Christopher Joye
Portfolio Manager & Chief Investment Officer
Coolabah Capital

Chris co-founded Coolabah in 2011, which today runs $7 billion with a team of 33 executives focussed on generating credit alpha from mispricings across fixed-income markets. In 2019, Chris was selected as one of FE fundinfo’s Top 10 “Alpha...

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