Money · Credit · New Zealand · Part 20
Where does the interest on government debt actually go?
Interest is a cost to the Crown. But it is also income to whoever owns the financial claim.
Part 19 followed New Zealand government debt to the investors who hold it.
Now we can follow the next cash flow.
Interest.
If the Crown issues a bond, the bondholder is entitled to the payments written into the security.
For nominal New Zealand Government Bonds, coupons are paid semi-annually in arrears.
For inflation-indexed bonds, coupons are paid quarterly.
New Zealand Debt Management — Government Securities Overview 2026/27 ↗
So when the Government pays interest, the money does not vanish.
It becomes investment income to the current holder of the security.
Government interest expense and investor interest income are two sides of the same financial contract.
The Crown's finance bill is already substantial
Treasury's Budget Economic and Fiscal Update 2026 forecasts core Crown finance costs of $9.061 billion in 2025/26.
That rises to $10.196 billion in 2026/27, then $11.572 billion in 2027/28, $12.777 billion in 2028/29 and $13.910 billion by 2029/30.
Treasury says the increase is largely driven by the additional borrowing required to meet forecast funding shortfalls.
As a share of GDP, core Crown finance costs are forecast to rise from around 2.0% in 2025/26 to 2.5% by 2029/30.
Treasury — Budget Economic and Fiscal Update 2026 ↗
That is the first reason debt service matters.
Every dollar spent servicing existing financial obligations is a dollar that cannot simultaneously be spent somewhere else.
But “finance costs” are broader than government-bond coupons
This distinction matters.
Core Crown finance costs include interest and related financing expenses across the core Crown.
They are not simply a total of coupon cheques sent to New Zealand Government Bond holders.
Likewise, the total Crown has financial assets that earn interest as well as liabilities that incur interest.
For 2025/26, Treasury forecasts total Crown:
interest revenue of $5.910 billion,
interest expenses of $10.161 billion,
leaving forecast net interest expense of $4.251 billion.
Treasury — Forecast Financial Statements, BEFU 2026 ↗
That does not mean the Crown's debt service is “really only” $4.251 billion.
Different fiscal measures answer different questions.
It means the wider Crown earns interest on assets at the same time as it pays interest on liabilities.
So who receives the coupon payments?
The answer depends on who owns the bond at the payment date.
If the security is held by an overseas fund, the coupon is income to that overseas investor.
If it is held by a New Zealand bank, the coupon is income to the bank.
If it is held through a managed fund or KiwiSaver portfolio, the economic benefit ultimately belongs to the fund's investors according to the fund structure.
If a Crown entity holds the security, the interest is income to that entity before Crown consolidation.
If the Reserve Bank holds the bond, the payment enters the Reserve Bank's own accounts and therefore has a different relationship with the consolidated Crown.
The current owner receives the interest. The original buyer does not keep receiving coupons after selling the bond.
A significant share therefore goes overseas
As Part 19 showed, non-resident investors currently own a large share of New Zealand government securities.
At the end of July 2026, the Reserve Bank reported non-residents holding approximately $124.5 billion of the central-government securities in its D30 statistics.
Non-residents held 56.9% of government securities available in the secondary market.
Reserve Bank — Holdings of central government debt securities ↗
That means a substantial share of government-security interest payments ultimately becomes income to investors outside New Zealand.
But we should not take 56.9% and mechanically multiply it by the Crown's annual finance-cost figure.
Why not?
Because the instruments are not identical.
Different bond lines have different coupon rates.
They were issued at different times and prices.
Inflation-indexed bonds behave differently from nominal bonds.
Treasury bills do not pay ordinary coupons in the same way.
And the Crown finance-cost measure includes liabilities beyond the securities counted in the Reserve Bank's D30 ownership table.
So the ownership share tells us who holds the stock of securities.
It does not, by itself, give us an exact sector-by-sector split of annual Crown finance costs.
Holdings tell us where the claims sit. They do not automatically tell us the exact distribution of the annual interest bill.
Does interest paid overseas make New Zealand poorer?
It is an income outflow from New Zealand to the non-resident holder.
That is economically relevant.
But it is only one side of the financing relationship.
The investor supplied capital to the Crown when the security entered the market, directly or through subsequent market transactions that support demand and liquidity.
Foreign demand can broaden the investor base and help the Crown borrow on better terms than if it were confined to a much smaller domestic savings pool.
New Zealand Debt Management deliberately seeks a diverse domestic and international investor base for that reason.
NZDM — Government Securities Funding Strategy ↗
The correct question is therefore not:
“Why are we paying foreigners anything?”
It is:
“Was the borrowing useful enough to justify the financing cost, and is the investor base helping us fund the Crown efficiently?”
Interest paid to New Zealand investors stays inside the domestic economy — but it is not free
This is the opposite misconception.
Suppose a New Zealand managed fund holds a government bond.
The Crown pays the coupon.
The fund records investment income.
That income may ultimately support retirement savings or another domestic balance sheet.
From New Zealand's consolidated national perspective, that is partly a transfer between domestic sectors.
But from the Crown's fiscal perspective, it remains a real expense that must be financed from revenue, cash or further borrowing.
It also changes distribution.
Taxpayers collectively finance the Crown.
Bondholders receive the contractual interest.
Those groups overlap, but they are not identical.
Domestic interest is not money lost to the country. But neither is it costless to the Government.
Tax can return part of the flow to the Crown
Interest income can itself be taxable.
For New Zealand resident bondholders, resident withholding tax can apply unless the holder has valid exempt status.
For non-residents, non-resident withholding tax or Approved Issuer Levy rules can apply depending on the circumstances.
NZDM — Nominal bond information memoranda ↗
So even a gross coupon payment is not always the same as the final after-tax income received by the investor.
But taxation does not eliminate the underlying financing cost.
It changes the net fiscal and distributional effect.
What happens when a Crown entity owns the bond?
This is where consolidation becomes important.
Suppose one part of the Crown pays interest to another part of the Crown.
Before consolidation, one entity records an expense and the other records revenue.
When the Government's accounts are consolidated, intra-Crown transactions are eliminated so the Crown does not report paying itself as though it were an external expense.
Treasury's 2025/26 forecast statement illustrates this directly.
Core Crown, Crown entity and State-owned-enterprise interest expenses sum to more than the consolidated total because approximately $1.579 billion of inter-segment finance-cost transactions are eliminated.
Treasury — Forecast Statement of Segments 2025/26 ↗
This is why “who holds the debt?” changes the accounting interpretation.
The Reserve Bank is the most misunderstood holder
During the Large Scale Asset Purchase programme, the Reserve Bank bought large quantities of government securities in the secondary market.
Those securities became assets on the Reserve Bank's balance sheet.
The Crown continued making the contractual payments associated with them.
But because the Reserve Bank is part of the wider Crown, the consolidated fiscal relationship is not the same as a coupon paid to an external overseas investor.
At the same time, the Reserve Bank funded its LSAP purchases by creating settlement balances, and those balances themselves can carry interest costs.
So central-bank ownership does not make the economic cost of financing disappear.
The liability structure changes.
This is why “the Government should just owe the debt to the Reserve Bank” is incomplete
If the Reserve Bank holds a government bond, the Crown has not escaped every financing consequence.
The Bank has assets and liabilities of its own.
Its settlement-cash liabilities interact with the Official Cash Rate.
Its profits and losses ultimately matter to the Crown.
And monetary-policy credibility depends on the Reserve Bank being able to pursue its statutory mandate rather than acting as a permanent financing arm of government.
The LSAP portfolio is now being unwound, with the Reserve Bank saying the remaining programme will be fully unwound by 30 June 2027.
Reserve Bank — LSAP sales update 2026 ↗
Existing bond coupons do not automatically rise when the OCR rises
Nominal New Zealand Government Bonds generally have fixed coupons.
If market interest rates rise after a bond has been issued, its contractual coupon does not suddenly reset.
Instead, its market price and yield adjust.
The Crown feels the higher-rate environment progressively when it issues new bonds or refinances maturing debt at higher yields.
That is one reason the maturity profile from Part 18 matters.
A longer average maturity slows the speed at which higher market rates flow through the whole debt stock.
Conversely, falling rates also take time to reduce the average finance cost because old higher-coupon debt remains outstanding until repurchased or matured.
Debt service can therefore rise with a delay
This is sometimes called the effective interest-rate effect.
The market can move quickly.
The Crown's average cost of debt moves more slowly because the existing portfolio was issued across many different years.
That is why Treasury can forecast finance costs continuing to rise even when the economic outlook later anticipates lower inflation or interest rates.
More debt is being issued, older securities are being refinanced, and the cost of the portfolio adjusts over time.
When does interest become a real constraint?
Not when it reaches one magic dollar amount.
Debt service becomes constraining when it starts materially narrowing the Government's choices.
I would look for five signs.
1. Finance costs are rising faster than revenue.
2. Interest takes a growing share of the Budget.
3. New borrowing is increasingly needed just to cover interest and recurring deficits.
4. Markets demand a larger risk premium to hold Crown debt.
5. Debt service crowds out high-value public investment or reduces shock capacity.
Treasury's current forecast is already showing finance costs rising as a share of GDP from 2.0% in 2025/26 to 2.5% by 2029/30.
That does not mean New Zealand is in a debt crisis.
It means the financing burden is becoming more important in fiscal choices.
The strongest warning sign is debt used to pay for debt service
Governments routinely refinance maturing principal.
That is normal sovereign debt management.
But there is a more concerning pattern:
persistent operating deficits,
rising interest expense,
and additional borrowing required not to create assets or absorb a temporary shock, but simply because recurring revenue remains below recurring expenditure.
That is when debt service begins reinforcing the structural deficit.
Interest creates more expense.
The expense creates more borrowing.
The borrowing creates more future interest.
Refinancing principal can be normal. Borrowing indefinitely because the operating system cannot fund itself is a different problem.
So is interest “wasted money”?
Not necessarily.
Interest is the price the Crown pays for using somebody else's capital over time.
If borrowing allowed New Zealand to build a productive asset sooner, absorb a major shock or spread a long-lived investment fairly across generations, the interest cost can be part of a rational financing decision.
If the debt financed a poor project or a structural operating gap with no correction plan, the same interest becomes much harder to justify.
The coupon does not tell us whether the original borrowing was wise.
We have to look at what the borrowing achieved.
My interest-cost dashboard
If I were monitoring the burden, I would track:
Gross core Crown finance costs.
Finance costs as a percentage of GDP.
Finance costs relative to tax and core Crown revenue.
Total Crown interest revenue and net interest expense.
Domestic versus non-resident government-security holdings.
Average effective interest rate on Crown debt.
The maturity profile and amount being refinanced each year.
The operating and primary fiscal balance.
And what the debt being serviced actually financed.
My conclusion
Where does government-debt interest go?
To the holder of the financial claim.
Some goes overseas.
Some goes to domestic banks and investment funds.
Some ultimately benefits New Zealand savers.
Some is paid between Crown institutions and disappears on consolidation.
Some interacts with the Reserve Bank's balance sheet.
And some returns to government through taxation.
But none of those observations makes the fiscal cost irrelevant.
The Government still has to service its external obligations and maintain enough revenue and balance-sheet capacity to do so without sacrificing more valuable uses of public resources.
Where interest goes matters for distribution. How large it becomes matters for fiscal capacity. What the original debt financed determines whether the cost was worth carrying.
Next
We have now followed government debt from issuance to ownership and then to interest.
The next question goes back to the banking system:
Why do banks buy government bonds if they can create credit themselves?
Part 21 will examine liquidity, collateral, capital treatment, safe assets, settlement, regulatory requirements, portfolio management and why government securities occupy a very different place on a bank balance sheet from a mortgage or business loan.
Primary sources
Treasury — Budget Economic and Fiscal Update 2026 ↗
Reserve Bank — Holdings of central government debt securities ↗
NZDM — New Zealand Government Securities Overview 2026/27 ↗
NZDM — Government Securities Funding Strategy ↗