Political battle lines have been drawn around the amount of government spending that Labour and National see as appropriate.
As the election campaign heats up, the pressure will intensify on National to release how it will achieve the cost-cutting it has promised.
ANZ-National Bank chief economist Cameron Bagrie said government and associated spending provided core public goods, set out a legal and social framework within which the economy operated, addressed market failure by spending and investing in areas where the social rate of return exceeded the private rate of return and provided a basic social safety net.
The latest financial statements of the Government for the 11 months ended May 31 showed that both revenue and spending had increased this year.
Despite the economy being in a technical recession for the six months to June, the Government's operating balance excluding gains and losses (obegal - Finance Minister Michael Cullen's preferred measure of the economy) was $1.6 billion higher than forecast and the bottom-line operating balance was $2.6 billion higher.
Tax revenue increased 9.5%, or $4.5 billion at the 11 months to May compared to the 11 months ended May 2007.
The Government was forced to introduce tax cuts in this year's budget and will bring them in on October 1, a few weeks before the election.
National continues to say it will make tax cuts, but no detail has been released.
Large ticket government spending items continued to be social security and welfare, which went up 4.9% in the period to $16 billion, health, up 9.3% to $10.3 billion and education, up 3.7% to nearly $9 billion.
Mr Bagrie said poorly-conceived and ill-directed government spending could lead to poor economic results.
"High levels of government spending can crowd out more productive private enterprises.
"There are also deadweight costs of taxation associated with raising the revenue to fund government spending, arising from distortions and the burden placed on households and businesses.
"In addition, the public sector is often thought to be less efficient than the private sector, leading to inefficiencies and lost productivity."
Another potential cost came in the form of negative multiplier costs, where activities that were funded by only a small portion of the Government's budget actually created large costs in terms of economic growth, he said.
Identifying and quantifying the economic costs of poor government spending was difficult because no-one really knew the counterfactual.
The nature of a government's role within an economy also added to the difficulty.
Government spending could raise the marginal product of capital but the funding of such expenditure, through taxes, created disincentives, Mr Bagrie said.
He concluded that much government funding was being directed into non-productive areas.
He examined the spending mix - how much was spent on front-line activities, such as welfare benefits, health and education services and police, rather than on "back-office" government departments.
"What we find is that the back-office expenses have exceeded our definition of front-line spending, resulting in an upward trend."
Growth in departmental spending had averaged close to 7% a year since 1997 but whole front-line spending increased 5%.
Nominal GDP growth within the economy averaged 5.5%.
Government spending as a proportion of GDP had fallen from 42% in 1995 to 39% in 2001 but had since returned to the OECD average of 40%.
Mr Bagrie said if the back-office ratio had remained in line with front-line spending, there would have been an extra $1 billion free for other activities and a cumulative saving since 1997 of $3 billion.
In education, back-office spending had grown annually at 12% since 1997, massively outstripping front-line purchases.
Similarly, benefit spending increases had averaged 3% while back-office spending had been 7.5% a year.
However, in health, the trend was the opposite.
While it was encouraging spending for tomorrow in activities such as education and infrastructure was increasing, it was puzzling relatively more money was going into departmental spending, Mr Bagrie said.
The study found spending in productive government activities (education, law and order, science, housing, defence, employment initiatives, and transport) grew at 5.2% compared with those in non-productive (departmental outputs, heritage, culture, recreation and economic and industrial services), at 8.4%.
In another gauge of the spending mix, Mr Bagrie said it appeared growth in spending in "hand-up" activities (front-line education excluding student loans and employment initiatives) was outpacing "hand-out" (benefits) by 4.4% to 3.3%.
He acknowledged shortcomings in his definitions and noted the Government may have been playing "catch-up" in departmental spending due to previous under-spending.
There were no benchmarks and the mix of spending was not necessarily wrong, particularly as spending priorities were the result of living in a democratic society.
"Nonetheless, we believe the trend across our gauges is sufficiently clear: more government spending is being directed at areas that are not going to the front-line and for consumption today, relative to tomorrow."
Measurable benchmarks needed to be introduced into the Government's stated objectives such as the Fiscal Strategy Report, Mr Bagrie said.
However, the requirement for transparency and rigorous analysis of spending could be overdone and might be part of the problem.
Many resources in education and elsewhere were tied up in approval and monitoring, rather than simply getting the job done.
With 41 government departments, 65 crown entities, 21 District Health Boards and nine Crown Research Institutes, Mr Bagrie said it might be time for a repeat of the 1980s "quango hunt" to slim government down.
During the series of National Party regional conferences in May, party leader John Key emphasised he wanted to take a "disciplined approach" to government spending so that interest rates would track down, not up.
"Here's a fact you might be interested in: government spending has increased from $34 billion to $62 billion over the time Labour has been in office.
"Are we really to believe that every dollar of that is being spent on vital services? If that's really the case, then you'd think that Kiwis would have noticed some huge improvements in hospital services, in school performance and in the amount of crime on the street."
As an example, Mr Key quoted the Tertiary Education Commission which he said planned to spend $3 million on consultants last year and ended up spending $10.6 million.
The organisation, which did not exist five years ago, now employed 341 people and cost $72 million a year to run.
The commission also got a funding increase of $22 million in this year's budget.
National would also move to ensure that the focus of public service was on serving the public and it would stop any further growth in the number of head office bureaucrats, he said.
Since 2000, the number of teachers in state primary and secondary schools had grown by 12%.
Over the same period, the number of people employed in the various education bureaucracies had grown at more than three times that rate.
Also since 2000, the number of nurses and doctors employed in district health boards had grown by 28% but the number of people employed in the Ministry of Health had grown by 51%.
"Across the economy, we now have a situation where one in 50 jobs is as a bureaucrat.
"I can promise you that under my leadership, additional public spending will be focused on front-line services and resources like those in our schools, our hospitals and the prison system.
"National will ensure that Kiwis come first, not bureaucrats," Mr Key said.
Council of Trade Unions president Helen Kelly was not impressed by Mr Bagrie "taking the low road" in the debate.
"It is not surprising that at the same time as ANZ-National is moving to outsource back-room staff overseas, it chooses to attack the Government's success in rebuilding the dilapidated public services of the 1990s."
Ms Kelly criticised Mr Bagrie's methodology and said he had included in the total back-room spending by the Ministry of Education, money that was spent on hundreds of special education staff working directly with children with disabilities and learning difficulties.
