Last night I spoke to the Wellington branch of LEANZ on “Housing, financial stresses, and the regulatory role of the Reserve Bank”. They had a good turnout and some stimulating discussion ensued.
The text of my address is here
The presentation was organised in three parts:
• Making the case that high house (and land) prices in Auckland are largely a predictable outcome of the interaction of supply restrictions and high target levels of non-citizen immigration. With, say, 1980s levels of non-citizen immigration, New Zealand’s population would be flat or falling slightly. Much of that ground will be familiar to regular readers of this blog. It matters because what has raised house prices in New Zealand is very different from what raised them in the crisis countries. In the United States, government policy initiatives systematically drove lending standards downwards in the decade prior to the crash, and in Ireland and Spain, imposing a German interest rate on economies that probably needed something more like a New Zealand interest rate systematically distorted credit conditions across whole economies. New Zealand – and other countries with floating exchange rates and private sector housing finance markets – had no such problems. Credit was needed to support higher house prices in other advanced economy, but it was not the driving force behind the boom.
If I am right that the New Zealand house price issues result from the interaction of our planning regime and our immigration policy, then these are structural policy choices that systematically overprice houses, largely independently of the banking and financial system. They are not ephemeral pressures – here today and gone tomorrow. They have been building for decades. I hope they are reversed one day, but there is no market pressures that will compel them to (any more than there are market pressures that compel the reversal of planning restrictions in Sydney, London, or San Francisco). These distortions are not making credit available too easily and too cheaply right across the economy (which is the single big difference between NZ or Australia, and say the Irish, US or Spanish situations). They are simply making houses less affordable. The Reserve Bank has no better information than you, I, or the young buyers in Auckland do, on whether and when those policy distortions will ever be reversed. And even if the policy distortions were corrected, it is pretty clear that real excess capacity (too many houses, too many commercial buildings) is a much bigger threat than simply an adjustment in the price of banking collateral. No one thinks Auckland has too many houses, or too much developed land.
• The core of the paper was the proposition that the Reserve Bank’s actual and proposed LVR restrictions appear both unwarranted by, and inconsistent with, the Reserve Bank’s statutory mandate to promote the soundness and efficiency of the system. In subsequent discussion, a very senior lawyer went so far as to suggest that the Bank might even be acting ultra vires. My arguments around the LVR policies had a number of dimensions including:
o The almost total absence of any sustained comparative analysis of the international experience of the last decades, including the issue of why some countries (Spain, Ireland, and the United States) had very nasty financial crises and housing busts, and others (New Zealand, Australia, the UK, and Canada) did not.
o The lack of any engagement with New Zealand’s own experience in the last decade. Risks appeared much greater in 2007 than they are now, and yet the banking system came through a severe recession, and sluggish recovery, unscathed.
o The lack of willingness to engage openly with the results of the one piece of sustained work the Bank has done, the 2014 stress tests, which suggested that the New Zealand banking system, on the current composition of their asset portfolios, could relatively easily withstand even a very severe shock.
o The failure to address the efficiency dimension of the Bank’s statutory responsibility. Both the actual and proposed LVR controls will impair the efficiency of the financial system.
o The failure to identify and address the distributional implications of the controls.
o The failure to grapple with the limitations of the Bank’s (and everyone else’s) knowledge. There might be an arguable case for controls if we could be sure a crash was coming 12 months hence, but in fact the Bank has no better information than you or I do as to when, or if, there will be a substantial fall in nominal house prices.
• Discussion of the regulatory powers of the Bank, and its governance. As I put it in the conclusion:
These concerns bring into focus the weaknesses that have become increasingly apparent in the Reserve Bank Act. That Act was a considerable step forward in 1989, at a time when only a modest and limited role was envisaged for the Reserve Bank. But it is now 2015, and the legislation is not consistent with the sorts of discretionary policy activities the Bank is now undertaking, with modern expectations for governance in the New Zealand public sector, or with how these things are done in other similar countries. Doing some serious work on changing the single decision-maker model would be an excellent place to start, but it is only a start. A much more extensive rethink and rewrite of the Act, and the Bank’s powers, is needed to put in place a much more conventional model of governance and accountability, especially in these regulatory areas.