Reading the Herald over lunch, I found a column by Matthew Goodson, the head of a funds management company. Authors don’t get to write the headlines, but I think the gist of Goodson’s piece is summed up here in his own words:
“Thank goodness that Graeme Wheeler and the RBNZ are beginning to pay attention to the issue. It is simply bizarre that they are being criticised for being the one official institution to show some leadership and tentatively use their limited tools to lean against Auckland house prices.”
I assume that I’m one of those whose views are being described as “bizarre”.
But let’s step through Goodson’s argument:
First, he seems to suggest that critics of the Bank think house prices will never come down. Perhaps there are some who believe that, but I’m quite happy to work with an assumption that some event, at some point, could lower Auckland house prices by 50 per cent. Indeed, that is what the Reserve Bank assumed when they did their stress tests. And the banks came through unscathed. Goodson does not mention this work, which has been published by the Bank, and Graeme Wheeler has not engaged with it. Perhaps it is wrong or seriously misleading – I’m open to the possibility – but let’s see the evidence and argumentation.
Second, Goodson rightly stresses the bad economic consequences that have at times followed from credit-fuelled asset price booms. As he says, the post-1987 New Zealand equity and commercial property crash springs to mind. But the operative word is “credit-fuelled”. Credit is growing at around 5 per cent per annum, just a little faster than nominal GDP, right now. But over the years since 2007 the ratio of credit to GDP has fallen, not risen. Big increases in the ratio of debt to GDP over quite short periods of time have been one of the better indicators of future problems (but there have been plenty of “false positives” too). We had those sorts of increases from 2002 to 2007. We’ve had nothing similar since.
Third, Goodson invokes Spain and Ireland, and fails to mention that these were economies that had German interest rates during the boom when they needed something more like New Zealand ones, and when the construction boom burst – and construction booms do much more damage than pure asset prices booms – they were still stuck with German interest rates, not something lower, and couldn’t adjust their nominal exchange rates either. There are plenty of lessons from Spain and Ireland if New Zealand is ever thinking of adopting a common currency. But otherwise not.
Fourth, Goodson does not mention that all his points could have been made, more compellingly, about New Zealand in 2007. We’d had rapid rises in the prices of all types of assets, rapid growth in credit across all components of bank lending books, signs of material deterioration in credit quality around dairy loans, and probably commercial construction, and big corporate-finance loans as well. And yet, the banking system came through unscathed. If controls had been put on back then, would they still be on today, at what costs to individuals and to the efficiency of the financial system?
Fifth, Goodson does not engage with the provisions of the Reserve Bank Act. Perhaps what Graeme Wheeler is doing is in some sense good for the country – I doubt it, but let’s grant the possibility. But Graeme is not the elected Minister of Finance, proposing legislation to a Parliament of elected members. He is an unelected official, supposed to operate within the confines of a specific Act. That Act requires him to use his banking regulatory powers to promote the soundness and efficiency of the financial system. But his own stress tests tell him that the soundness of the banking system is not impaired – and even if it were to be, the capital buffers in the system are much bigger than they were in, say, 2007. And what of the adverse impact on the efficiency of the system? Equally creditworthy borrowers in Auckland will not, by the coercive power of the state, be permitted to take a loan from a bank that they would be able to if they were in Wellington or Christchurch. And non-banks can make such loans in Auckland, but banks can’t. Where is the evidence that banks and borrowers are behaving so recklessly that they cannot safely be permitted to have a single cent of debt secured on investment property if the loan is above a 70 per cent LVR? Goodson doesn’t present it, and neither has the Bank. Build bigger capital buffers if you must – they have much smaller efficiency costs, and don’t directly come between willing borrowers and willing lenders.
Finally, Goodson observes that “the RBNZ’s tools need to be sharpened rather than tempered, with other countries providing plenty of evidence for the success or failure of tools such as stamp duty, removing the tax advantages of so-called investors, overseas investment restrictions, loan restrictions et al”. To which I would make two responses. The first is to say “Really?” I think the evidence of the impact these differences make to house prices is much less clear. Tax regimes differ enormously around the world, and if ours offer unjustifiable advantages to anyone it is to unleveraged owner-occupiers, rather than those operating residential rental services businesses (“so-called investors”).
But perhaps more importantly, I hope he isn’t suggesting that such tools should be wielded by the Reserve Bank. We live in a democracy, where key economic policy decisions should be taken by those whom we elect, and whom we can vote out. Goodson alludes to Sir Robert Muldooon. Some of Muldoon’s interventions were pretty damaging and unwise, but we voted him into office, and we could (and did) vote him out again.
As I’ve said previously, the sense that “something needs to be done” seems to be leading to sense that “anything is something, so let’s welcome anything”, with no proper problem definition, no sense of what should properly be done by whom, and no sense of the risks and costs if the authorities have it wrong. The Reserve Bank has an important role to play. It should be doing two things. It should be continuing to refine its stress-testing exercises, and the risk-weighting models used by banks in their internal capital models, to ensure that the banks really can cope with a very nasty shock. And beyond that should be using part of the significant research and analysis capability the taxpayer funds to produce rigorous and well-grounded papers identifying the real issues in the local housing (and housing finance) markets, reviewing the lesssons from countries that have, and have not, had banking crises related to their house prices booms, reviewing lessons from past interventions (successful and otherwise). They might even develop (or commission) expertise in things like capital income taxation or urban planning regulations, to better be able to provide advice on the costs and benefits of action, or inaction. Considered analysis of this sort, complementing that from core government departments, can provide a good foundation for political decision-makers to act, or not act. But these are the sorts of instruments that, in a free society, only elected people should be deciding on.
Serious liberalisation of planning laws, and/or a reduction in the non-citizen target immigration level would be good places to start. Both would, very belatedly, lower house and land prices, probably rather a lot. But they would not threaten the soundness of our financial system..