Welcome to new readers

Welcome to readers who have visited this blog since my Q&A interview yesterday. Although the most recent post was on Australian monetary policy, my focus here is on New Zealand issues. The range of topics I touch on reflects some, slightly random, mix of my fairly wide-ranging interests, my experience, my reading, and what pops up in newspapers, speeches, or other blogs here and abroad.

The single economic issue that I care about most is reversing the decline in New Zealand’s relative economic performance that has been going on, in fits and starts, since at least the middle of the twentieth century, if not longer. We’ve done badly.  I want New Zealand to be a place my kids want to stay in, rather than joining the diaspora – the more than 900000 New Zealanders (net) who’ve left since 1970.

But much of the content of the blog so far has been on issues relating to housing, financial stability and banking regulation, and the Reserve Bank. That mostly reflects what has been going on in New Zealand this year, and choices that the Reserve Bank in particular has made. When I gained my freedom earlier in the year I didn’t set out to focus on the Bank. I think they’ve been making some poor calls – both on monetary policy, and around banking regulation – but even in respect of the Reserve Bank I’m more interested in advancing the cause of institutional reform than in this year’s specific decisions.

For the last couple of months, I have been categorising my posts so anyone new to the site can find a way in to the various topics I’ve covered. But for anyone interested in some more substantial pieces of my argumentation, you could try these links:
• A speech I gave in May on the “blunders of our governments”, that are primarily responsible for high house prices.
• A speech given at a LEANZ seminar in June on “Housing, financial stresses, and the regulatory role of the Reserve Bank”.
• A paper issued in May making the case for reforming the governance of the Reserve Bank
• My recent submission on the Reserve Bank’s proposal to restrict access to mortgage finance for residential rental businesses in Auckland.

In terms of the longer-term economic performance issues:
• This paper, written in 2013 for a Reserve Bank/Treasury forum on exchange rate issues sets out how I’ve been thinking about the issues.
• And these more-speculative speech notes also from 2013 take a longer-term perspective on New Zealand’s relative economic decline.

I welcome comments, and have been pleased (not to say relieved) at the tone that commenters have maintained. Thoughtful discussion and debate matter, and I hope that in some small ways this site can contribute.

Glenn Stevens on monetary policy

I’ve long had a great deal of time for the Reserve Bank of Australia. It is an institution made up of human beings, so they make mistakes from time to time (for a while, for example, their relentless optimism about China reminded one of a sell-side analyst) but it has been a strong institution for decades, successfully developing successive generations of governors and senior managers. Successful organisations tend to promote from within. The RBA publishes thoughtful analysis, and the speeches of senior managers are usually well-worth reading. I don’t recall any major innovations originating at the RBA, but they’ve avoided policy debacles like the MCI experiment, or rapid policy reversals.  All things considered – and setting to one side the serious issues around Note Printing Australia – I think the RBA has had a reasonable claim to having been one of better advanced country central banks in recent decades. At times, no doubt, fortune has favoured them. And perhaps too, there is a little in the old proverb about the grass always being greener on the other side.

Anyway, I was reading Glenn Stevens’ most recent (and quite short) speech, “Issues in Economic Policy”, on some of the challenges the Australian authorities, and the Reserve Bank in particular, face at present. The Governor grouped his remarks under four headings:

  • Negotiating turbulence (the international environment)
  • Accepting adjustment
  • Maintaining stability, and
  • Securing prosperity (a rather general discussion of the place of microeconomic reform)

What struck me, and prompted this post, was how scarce references to inflation were in the speech.  The Reserve Bank’s primary policy responsibility is the conduct of Australia’s monetary policy.  As the (non-binding) Statement on the Conduct of Monetary Policy between the Treasurer and the Governor put it:

Both the Reserve Bank and the Government agree on the importance of low inflation.

Low inflation assists business and households in making sound investment decisions. Moreover, low inflation underpins the creation of jobs, protects the savings of Australians and preserves the value of the currency.

In pursuing the goal of medium-term price stability, both the Reserve Bank and the Government agree on the objective of keeping consumer price inflation between 2 and 3 per cent, on average, over the cycle. This formulation allows for the natural short-run variation in inflation over the cycle while preserving a clearly identifiable performance benchmark over time.

There are only two references to inflation in the speech.  In the main one he observes:

A period of somewhat disappointing, even if hardly disastrous, economic growth outcomes, and inflation that has been well contained, has seen interest rates decline to very low levels. The question of whether they might be reduced further remains, as I have said before, on the table.

But the thrust of what followed was a bit surprising:

But in answering that question, it is not quite good enough simply to say that evidence of continuing softness should necessarily result in further cuts in rates, without considering the longer-term risks involved. Monetary policy works partly by prompting risk-taking behaviour. In some ways that is good: in some respects, there has not been enough risk-taking behaviour. But the risk-taking behaviour most responsive to monetary policy is of the financial type. To a point, that is probably a pre-requisite for the ‘real economy’ risk-taking that we most want. But beyond a certain point, it can be dangerous.

Deciding when such a point has been reached is, unavoidably, a highly judgemental process. And that is after the event, let alone beforehand. My judgement would be that policy settings that fostered a return to the sort of upward trend in household leverage we saw up to 2006 would have a high likelihood, some time down the track, of being judged to have gone too far. That is not the case at present, given the current rates of credit growth and so on. But the point is simply that in meeting the challenge of securing growth in the near term, the stability of future economic performance can’t be dismissed as a consideration.

It was as if the authors of the BIS Annual Reports had managed to infiltrate the RBA’s speechwriting team. The point of this post is not to make the case for further cash rate cuts in Australia. On the surface, some further easing looks warranted to me, but I’m not close enough to the Australian data to be confident of that view. My point is that the Governor looks here to be risking taking his eye off the inflation ball, and downplaying short-term macro stabilisation for some ill-defined concern about the longer-term. In any economy adjusting to an investment slump a reasonable case might be made that insufficient risk-taking is going on. And since there are no reliable direct benchmarks for the appropriate degree of risk-taking, a simpler benchmark might be levels of excess capacity in the economy. An unemployment rate of 6 per cent – above any estimates of NAIRU that I’ve seen – might reasonably suggest a need for rather more risk-taking across the economy, if the people who are unemployed are relatively quickly to find jobs.

The Governor goes on to note that “policy settings that fostered a return to the sort of upward trend in household leverage we saw up to 2006 would have a high likelihood, some time down the track, of being judged to have gone too far”. Central bankers worry about periods of rapid growth in credit and asset prices, but it is a curious historical episode to cite. After all, Australia came through that period of leveraging up (which had more to do with the interaction of planning restrictions and rapid population growth as with anything to do with monetary or banking policy) rather well. And if some of that was down to the good fortune of the terms of trade, it isn’t obvious that countries like New Zealand or Canada suffered seriously from the aftermath of rather similar domestic credit booms (although of course, post-2007 growth has been weak almost everywhere). There was little or no evidence that lending standards became pervasively and seriously too loose in Australia (or New Zealand or Canada) during the pre-2007 booms

Perhaps I’m over-interpreting the Governor, but his comments have a bit of a feel about them of the Swedish Riksbank’s ill-fated experiment in using monetary policy to lean against household debt accumulation, rather than keeping their eye firmly focused on the medium-term outlook for inflation. Economists and central bankers don’t know that much about appropriate levels of debt or about what macro policy can do about them. By contrast, we have a stronger sense of when the numbers of people unemployed are above normal, and a rather better (although far from foolproof) sense of what monetary policy can do about that, especially in periods when core inflation pressures (domestically and globally) are pretty quiescent (core inflation measures in Australia seem to be at or below the midpoint). And in Australia, the Reserve Bank’s Act explicitly enjoins the Bank to run monetary policy in a way that best contributes to “the maintenance of full employment in Australia”.  For practical purposes that doesn’t override a medium-term focus on keeping inflation near-target, but it does rank rather higher in the statutory list of considerations than visceral unease about the possibility, at some point down the track of excessive risk-taking.

On an unrelated point, for any readers interested TVNZ’s Q&A programme yesterday pre-recorded an interview with me, to be shown tomorrow. The questions were mostly around the Reserve Bank of New Zealand: actions, inactions, and frameworks. Unless I said something I really didn’t mean to say, I don’t think there is anything in the interview that regular readers won’t have encountered before. One question – how worried should we be about the New Zealand economy – caught me a little by surprise, and I’ve been reflecting further on that. I might jot down some thoughts on that here on Monday.

Immigration, and the evidence of things not seen

In the biblical book of Hebrews, there is a verse that reads “Now faith is the assurance of things hoped for, the evidence of things not seen”.

It seemed to be rather like that at the Pathways Conference that I attended part of in Wellington yesterday morning.  The Pathways conferences were established back in the 1990s and are held annually “to disseminate publicly funded research on international migration and demographic change”.  I hadn’t been to one before, and it looks like an excellent initiative, at least in principle.  The issues around immigration (here and abroad, past and present)  are fascinating and we (and other countries no doubt) need a “reasoned and deliberate” debate on immigration policy[1].  Funding enables the conference to be held at no cost to the participant, and enables academic and public sector researchers to discuss research results and immigration-related issues.  Given the significance of immigration in New Zealand, and the way it is seen as a significant “economic lever” (in the words of a senior MBIE official at the conference), we need scrutiny and debate.

There were around 120 attendees, but not a single member of the media.  That surprised me.   When I counted up the delegate list. almost 50 per cent were public servants (although I was a little surprised that no one from Treasury was there).

I suspect I may have been the only person present even mildly sceptical about the benefits of New Zealand’s immigration programme.  Certainly, none of the papers I heard, no comments from the floor, and none of the summaries of the remaining papers betrayed a shadow of doubt.      In fact, so certain of the direction of the argument were the organisers that they describe this year’s conference as being about “how New Zealand can better respond to these demographic changes in order to maximise the benefits associated with an increasingly diverse population”.  Perhaps there are such benefits, even net, but it would be better to demonstrate them, than simply assert them.  The tone of the conference –  supposedly about presenting publicly funded research  –  was apparent early on when the Minister of Immigration twice thanked conference attendees for all they (we?) did for “our migrant communities”.   And here I thought immigration policy was undertaken for the benefit of New Zealanders, whatever benefits there might be to the migrants themselves.

The contrast with the Australian Productivity Commission’s inquiry, which I wrote about last week, was striking.   There seemed to be no interest in questioning whether there were benefits, and if so who might be securing those benefits.  Nor much interest in innovative ideas (eg charging for migrant entry).  The Australian inquiry may well lead to no material changes in policy, but at least it should assure the Australian public of a serious and dispassionate analysis of the issues and options.

The Conference was described as being under Chatham House rules.  That seemed a little odd, at least in respect of the main presentations (as distinct from comments/questions from the floor), since the purpose was supposed to be about disseminating publicly funded research, to the public.    But the programme is on the web (see link) above.

I found the Minister’s speech rather unimpressive.  The organisers described it as a “keynote” but it was anything but.  Unfortunately, I can’t quote from it, but suffice to say he appeared unimpressed by anyone –  be it the Herald, or perhaps even stray bloggers (with long-outstanding OIA requests in for departmental advice on immigration targets) –  suggesting that waves of migrants were putting pressure on resources or infrastructure.  A keynote actually addressing some of the issues might have been interesting.  And although the Minister and MBIE seem keen to remind people of the weaknesses of the PLT immigration data, they omitted to point out that in recent decades net PLT immigration has understated (not overstated) the net number of people coming to New Zealand.

cumulative plt since 1990b

In fact, what was striking about the morning was how little there was to give a listener any confidence that the “economic lever” (New Zealand’s immigration programme) was doing New Zealand much good.  I went along to listen, and was prepared to be sceptical.  But I didn’t really need to be.  Because what I heard wasn’t very encouraging at all.  Listening to people discussing the problems of designing an entrepreneur visa, for example, I became more sympathetic to the idea of auctioning migrant places.  And anguished talk of concern about how many migrants were going into low productivity sectors, rather than “where we want them to go” had much the same effect, and a desire to reach for my copy of Hayek, on knowledge problems etc.  The central planning tone (no doubt unselfconscious) was quite disconcerting.

One of the MBIE papers is on the web.  It discusses some work on investor migrants –  who already, in effect, buy their way into New Zealand.  The aim of the programme is to import people with business expertise and entrepreneurial skills, presumably to boost productivity in New Zealand.  And yet in these surveys of people at various stages of the investor migrant process  (and  in which respondents must have been at least partly motivated to give the answers MBIE wanted to hear, even if results were anonymised), 50 per cent of the money investor migrants were bringing in was just going into bonds, and only 20 per cent was going into active investments.  We aren’t short of money, but may be of actual entrepreneurial business activity.  And 70 per cent were investing only the bare minimum required or just “a bit more”.  And these people aren’t attracted by the great business opportunities in New Zealand, but rather by our climate/landscape and lifestyle.  It doesn’t have the sense of being a basis for transformative growth.  As even a fairly pro-immigration academic observed, New Zealand isn’t exactly likely to be first choice for the sort of person who might build the next great tech company.

In much of the debate around immigration in New Zealand it seems that people can’t quite make up their minds what sort of immigration we want.  On the one hand there is considerable emphasis on highly-skilled migrants. I can see the logic of that argument, even if I’m sceptical of what difference it might make.  But on the other, there was repeated discussion of the role immigrants play in the aged care sector and in the dairy sector.  Such migration is no doubt good for the migrant (migration usually is) but the basis on which it assists in lifting per capita incomes, and medium-term productivity, for New Zealanders is much less apparent.  As one senior official put it to me recently, the logic of bringing in large numbers of people to work cheaply on dairy farms isn’t obvious.  It may just allow farmers to bid land prices higher, or perhaps compensate for the self-inflicted problem of an overly high real exchange rate.

So there wasn’t much to go on if one wasn’t sure of the benefits of immigration in New Zealand.  But if you went along already convinced then no doubt faith carried you through the accounts of the practical limitations of how our immigration programmes actually work.

And, of course, I know that this was just one conference, and there are lots and lots of papers on immigration.  But few or none of them show, with any confidence, that New Zealanders are securing economic gains from this substantial economic lever that successive governments have sought to deploy.  We need a reasoned and deliberate debate, perhaps with our own Productivity Commission inquiry.

[1] Readers may recall that that was Shamubeel Eaqub’s description of the sort of debate he wanted about immigration, at least before he responded to my analysis with the label “racist”, a slur he has still not withdrawn.

How about giving inflation a chance

The Governor’s OCR press release this morning held few surprises. Disappointments, yes, but not really any surprises. Given that in the June MPS the Governor had articulated only a fairly modest change of view, and had refused to acknowledge any sort of mistake in how monetary policy had been run last year, it was hardly surprising that, at a review between MPSs, at which he does not have the benefit of a full new set of forecasts, he wasn’t willing to cut by 50 basis points, as some had suggested was likely.  From the tone of the news release, such a cut probably wasn’t even seriously considered.

But if two cuts in six weeks might have broadly kept pace with the deteriorating data over the last couple of months, it does not make any inroads into the overly tight policy put in place when the Governor (and his advisers) misread inflation pressures last year. And that is the bigger problem. The Bank still seems to think it has things broadly right.

Here was my list of some sobering inflation statistics from my post last week in the wake of the CPI

Reciting the history in numbers gets a little repetitive, but:

• December 2009 was the last time the sectoral factor model measure of core inflation was at or above the target midpoint (2 per cent)

• Annual non-tradables inflation has been lower than at present only briefly, in 2001, when the inflation target itself was 0.5 percentage points lower than it is now.

• Non-tradables inflation is only as high as it is because of the large contribution being made by tobacco tax increases (which aren’t “inflation” in any meaningful sense).

• Even with the rebound in petrol prices, CPI inflation ex tobacco was -0.1 over the last year – this at the peak of a building boom.

• CPI ex petrol inflation has never been lower (than the current 0.7 per cent) in the 15 years for which SNZ report the data.

• Both trimmed mean and weighted median measures of inflation have reached new lows, and appear to be as low as they’ve ever been.

This, by contrast, is the Bank’s take:

Headline inflation is currently below the Bank’s 1 to 3 percent target range, due largely to previous strength in the New Zealand dollar and a large decline in world oil prices.

It just doesn’t wash.  CPI inflation ex-petrol was 0.7 per cent in the year to June.  CPI inflation ex tobacco (large excise increases) was…..actually not inflation, but slight deflation, a fall of 0.1 per cent in the last year.    And what of the exchange rate?  Direct exchange rate effects are not that large these days, but typically pass into consumer prices quite quickly (and one of the fastest routes is through petrol pricing).  The TWI in 2014 was around 4 per cent higher than in 2013, but that increase probably only subtracted around 0.4 percentage points from the annual inflation rate.  And as the TWI peaked in the middle of last year, the effect might have been even smaller by the year to June, the most recent CPI inflation we have.

twi to june 15

Focusing on headline inflation, as the Bank does in the extract above, seems like an effort to distract attention from the surprisingly weak core domestic inflation, whichever indicator of it one prefers to concentrate on.  And that weakness came at the very peak of a major building boom.

I was also a bit disappointed to see this sentence in the statement

While the currency depreciation will provide support to the export and import competing sectors, further depreciation is necessary given the weakness in export commodity prices.

Today would have been a good opportunity to have backed away from commenting on the exchange rate, except as it affects the inflation outlook, in these statements.  What does “necessary” here mean?  I assume it means something about stabilising the NIIP position (as a % of GDP) at a lower level, or improving the long-term growth prospects for New Zealand.    But that has nothing to do with monetary policy.  The nominal exchange rate is not an instrument in the Governor’s toolkit, and the real exchange rate is…well…a real phenomenon.  I happen to agree with the Governor’s unease about the level of the real exchange rate, but it is an endogenous real phenomenon.  Better for the Governor to focus on getting core inflation back to around the target midpoint  –  not just headline, relying on direct price effects of the lower exchange rate.  As it happens, the OCR path consistent with that obligation of the Governor’s would probably lower the exchange rate somewhat further as well.

I’ve made the point  previously, but will state it again.  When the Reserve Bank –  even more than other international central banks –  has misjudged inflation pressures for so long, it would be better for them now to err on the side of running policy a little looser than they really think wise.  Clearly there is something wrong in their mental model of inflation at present (and I’m not suggesting anyone else has a fully persuasive alternative), but after years of such low inflation, it might no bad thing if core inflation ended up a little above the target midpoint for a few quarters a year or two down the track.  I’m not suggesting a price level target, just that the policy reaction function needs to take more, and more aggressive, account of the repeated over-forecasting of inflation, and inflation pressures.  Among others, the 5.8 per cent of the labour force still unemployed might appreciate the chance to get back to work.

How sacrosanct should inflation targeting be?

On Donal Curtin’s blog the other day I noticed a reference to a recent paper published in New Zealand Economic Papers (unusually it appears to be accessible to non-subscribers) that looked at, among other things, whether inflation targeting had reduced the variability of long-term interest rates in New Zealand and Australia.   They conclude that it has.  Donal uses the results to encourage politicians to stay clear of any changes to monetary policy.

There is no doubt that long-term interest rates in New Zealand (and Australia) are much less variable than they were in the early days of liberalisation.  There was an awful lot going on back then.   The authors present the data for two sub-periods, April 1985 to December 1995 (which commences shortly after New Zealand interest rates were liberalised), and January 1996 to August 2008 (a period which ends just prior to the worst of the crisis, and the prevalence of near-zero short-term interest rates in many countries). For the countries they report, here are the data:


In the late 1980s, inflation in Australia and New Zealand was also much higher than in the other countries. Australia’s inflation rate averaged around 8 per cent, and New Zealand’s 10 per cent, while the US had an inflation rate of around 4 per cent.  Sweden’s inflation rate was also still on the high side.

There is little doubt that getting inflation under control (lower and less variable) was part of what helped markedly reduce the variability in nominal interest rates. It did that in all these countries. But how much of that is down to “inflation targeting” per se? I’d suggest very little. After all, as early as 1990q3, just a few months after the first PTA was signed, New Zealand’s annual CPI inflation rate was already the second lowest among the countries these authors look at.   In the UK case, the central bank didn’t even have operational independence until mid-1997, and in the United States anything closely resembling inflation targeting really only dates to the last few years.

I don’t want to get into a debate here as to whether inflation targeting is the best option for advanced economies these days, but to get a better sense of the contribution of inflation targeting we’d really need a country (preferably several) to change their regime. A decade with several countries running NGDP targets, or wage inflation targets, or even price levels targets, in parallel with others still running inflation targets might shed rather more light on the issue. For New Zealand, as I’ve argued elsewhere, inflation targeting was a specific form of articulating a commitment to more stable macro conditions than we’d had previously. It may have provided more discipline (on the Reserve Bank) than operating without an explicit target, but even there one could be reasonably sceptical. Most other advanced countries had already got inflation a long way down –  as had we (see above) before they got very serious about anything like inflation targeting.

There is a variety of good reasons for encouraging Opposition parties not to tamper too much with the essence of the monetary policy targeting framework (and perhaps to focus their energies instead on reforming the Reserve Bank, including its governance framework). Whatever is wrong with New Zealand’s economic performance over the long-term has little or nothing to do with the details of the monetary policy arrangements. But I wouldn’t take much from this NZEP paper on that score. It won’t, for example, shed any light on whether the Labour Party’s proposed restatement of the goal would make things better or worse, or just make no difference.

Here is how Labour last year proposed to amend section 8 of the Reserve Bank Act. The new section would read.

“The primary function of the Bank with respect to monetary policy is to enhance New Zealand’s economic welfare through maintaining stability in the general level of prices in a manner which best assists in achieving a positive external balance over the economic cycle, thereby having the most favourable impact on the stability of economic growth and the level of employment.”

It was clever piece of drafting.  I argued at the time, and still believe, that it would have made no material difference to the conduct of monetary policy. The inclusion of similar sorts of words in the Policy Targets Agreement in 1996 didn’t (but it allowed Winston Peters to tell the world that he had secured changes). I was never sure whether Labour recognised, or not, that the change would make little or no difference. I think their people were smart enough to know, but also to know that, in political positioning product differentiation and branding matter.

Of course, other possible changes might make more difference. Some might (conceivably) be for the better. There is certainly no reason to suppose that inflation targeting will prove to be the last word in how best to conduct monetary policy.

House of cards?

The Reserve Bank announced last month its decision to require banks to classify all loans secured on residential investment properties separately from other residential mortgage loans. This applies not just to large commercial operators, but to borrowers with just a handful of investment properties. The Reserve Bank will now require banks to use higher risk weights (ie have more capital) in respect of the former than in respect of the latter.

This has been quite a saga. The Bank went through a couple of rounds of consultation on earlier proposals last year (then focused on larger operators), and then came back earlier this year with a revised proposal. I made a brief submission on that consultative document, as no doubt did a variety of other people (although we don’t know who, as the Reserve Bank – unlike parliamentary select committees – does not routinely publish the submissions it received). The Reserve Bank’s summary response to the submissions can be found half way down the page here (various specific links on the RB website don’t appear to be working today),

The proposal that the Reserve Bank consulted on in March/April, and which it recently adopted, had a strong feel of being reverse-engineered. The Governor had apparently decided that he wanted to be able to impose additional direct controls on lending for residential property investment, and to do that he needed banks to have systems in place which would clearly delineate between investment property loans and owner-occupied loans. To support that prior policy conclusion, the Bank has sought to argue that loans on residential investment property are, all else equal, riskier than other residential mortgage loans.   To be clear, the Reserve Bank is asserting that a loan is riskier because it is secured on an investment property, even if the initial LVR, the initial date at which the loan was taken out, the nature of the house itself, the borrowers’ income etc were all exactly the same as those for an owner-occupied loan.

What has always been a bit surprising is how little in-depth effort the Bank has put into demonstrating that its argument is correct. It has run a variety of arguments in principle about why investment property loans might be riskier than those to owner-occupiers. Most of those have never seemed overly compelling, especially not in a New Zealand context.   Indeed, there are some reasons why the result could be reversed (for example, unemployment is probably the largest single risk, all else equal, in respect of an owner-occupier mortgage, but rental income flows – which help service investment property loans – tend to be less discontinuous).

But the issue should ultimately, be an empirical one. All else equal, have investor property loans proved to be riskier than owner-occupier loans? Getting good comparable data isn’t always easy.  Material loan losses tend to arise only when nominal house prices fall, and although real house prices fell sharply in the late 1970s, large nationwide falls in nominal house prices haven’t happened in New Zealand since the 1930s. Data from that period aren’t available – although perhaps it is an opportunity for an economic history PhD project working in bank archives. But even more recently, nominal house prices have fallen materially in a number of regions, and I have encouraged the Bank to ask banks for data on the loan loss experience (investor vs owner-occupier) in places like Gisborne, Wanganui, or Invercargill.

In fact, the Bank has tended to rely on a handful of overseas studies, about a handful of overseas experiences. This isn’t one of those areas where there are dozens of studies about dozens of episodes. That makes it all the more important that what studies exist are read carefully and applied and interpreted to New Zealand very carefully. That appears not to have been done. Worse, even when some weaknesses in the way the Bank interpreted and applied such papers were pointed out to them (in submissions on the consultative document), they largely just repeated their assertions and interpretations.

I’ve worked my way through some of the papers, and had had concerns about how the Bank had interpreted and applied the results. My former colleague, Ian Harrison, who consults as Tailrisk Economics, and is much more expert in the specialist risk aspects than I am, has worked his way carefully through each of the empirical papers the Bank has cited, and several that they should have cited, but did not. He has sent me a forthcoming paper “A House of Cards”, in which he has worked his way carefully through each of the Bank’s arguments and pieces of evidence. Cumulatively, it is a pretty damning read. Ian has given me permission to run some excerpts here, and I hope that when his paper is published it will get the attention it deserves.

On the international experience, Ian summarises as follows:

The international literature does not provide support  for the Bank’s contention that investor loans are riskier and owner-occupier loans. Four of the four studies that controlled for other loan attributes found that investor status had no impact, or only a trivial impact, on default rates. A European Banking Authority survey of 41 advanced modelling banks found that none identified investor status as a risk driver in their retail housing mortgage lending models.

A good example of what appears to have gone on is how the Bank has represented an important paper on the Irish experience

Lydon and McCarthy 2011 “What lies beneath? Understanding recent trends in Irish Mortgage arrears”

The graph presented in paragraph 11 of the March 2015 Consultation document presents data from the Lydon and McCarthy paper, which addressed the question of whether BTL [buy to let] status was, in itself, a default driver, or whether the higher default experience could be explained by differences in other loan characteristics.

It was found that after controlling for differences in LVR and servicing costs, BTL status had no impact on default rates.  The higher increase in observed BTL default rates was due to the fact that a larger share of BTL loans were made in the lead up to the GFC when underwriting standards were at their lowest point and house prices at a peak.

Naturally subsequent default rates were higher for investors who bought at the wrong time and who offered scant protection to the lender, but default rates would also have been higher than average for owner occupiers with the same characteristics.

The results of their analysis are presented in table 7 of the paper which shows that the coefficient  for the marginal impact of BTL status is 0.00.  This estimate is significant at the 1% level.

In a subsequent presentation (“The Irish Mortgage market in Context – Central Bank of Ireland 2011) the authors said:

“Controlling for LTV & MRTI…

Relative to next-time-buyers (NTB), FTB borrowers are 2% less likely to be in arrears

–whereas, no relative difference for BTL”(our emphasis)

The data presented in the Consultation document does not provide evidence that Irish BTL loans are a riskier asset class. It is misleading to represent the paper, as the Bank does in several documents, that it provides evidence that BTL loans are riskier.’

Or, in respect of a US study:

Palmer C. (2014) ‘Why do so many subprime borrowers default during the crisis: Loose credit or plummeting prices’

The Bank made the following statement:

“Palmer (2014) reports that default rates increased in a multivariate regression with loan to value ratio and for loans that were declared non-owner occupiers.”

In his paper Palmer uses comprehensive loan-level data to decompose sub-prime loan loss defaults amongst three default drivers. His conclusion is as follows.

Decomposing the observed deterioration in subprime loan performance, I find that the differential impact of the price cycle on later cohorts explains 60% of the rapid rise in default rates across subprime borrower cohorts. Loan characteristics, especially whether the mortgage had an interest-only period or was not fully amortizing, are important as well and explain 30% of the observed default rate differences across cohorts. Changing borrower characteristics, on the other hand, had little detectable effect on cohort outcomes. While quite predictive of individual default, borrower characteristics simply did not change enough across cohorts to explain the increase in defaults.”

There is no marker for investment property as such in the study, just a marker for whether the dwelling was  to be owner occupied or not. It is not clear whether holiday or other second homes would fall. Regardless, the non-occupier marker fell into the borrower characteristic category, which in total provided little independent explanation of deliquency. There was no result that investor status increased defaults. The Bank’s statement was false.

I suggest that you read the entire document when it is available. As far as I can tell, none of the studies the Bank cites appears to have been fairly represented, or applied to New Zealand.

If Ian’s reading of the papers is accurate (and I have no reason to doubt it) it is a very disconcerting commentary on the processes in the Reserve Bank.   The Bank has plenty of able people, who would have been well able to pick up on each of the weaknesses Ian Harrison has identified.  And yet not just once, but again in the response to submissions, and in the new consultative documents, after the Bank had had time to consider the criticisms that submitters have made, the studies have continued to be explained or applied in ways that are, at best, misleading.

Reasonable people can reach different views on appropriate policy measures. I think the Governor of the Reserve Bank has far too much power in this area, and I disagree with the proposed restrictions.   But if citizens cannot trust the Bank to cite evidence in a balanced and accurate way, confidence in the entire policymaking process is likely to be severely eroded.

As I have noted, in such areas the Governor is effectively prosecutor, judge, and jury in his own case. Worse, he is also responsible for the investigative work that is presented in support of the case that he will himself decide. Of course, he has staff to do the work for him, but the staff (and their managers) are hired, rewarded, and potentially fired, by the Governor. A strong Governor will want to know the weakest points in his own case, and to ensure that those weaknesses are appropriately aired, balanced presumably by other strong evidence or arguments for the sorts of regulatory initiatives he is proposing. But the Wheeler Reserve Bank appears to be one in which either no one is willing to stand up and point out the weaknesses or, if someone did point them out, where the Governor and his senior managers said, in effect, “oh just ignore that, continue to repeat the same lines”. One would hope there is a better explanation, but it isn’t obvious. The Bank’s Deputy Governor, Grant Spencer, for example, has spent decades in senior roles in the Bank, and many thought he was a strong candidate to become Governor in 2012. He has direct line responsibility for the two departments dealing with these banking regulatory issues. How did he let documents this weak go out, not just once, but repeatedly? Anyone can make a mistake citing a single paper, but the breadth and repeated nature of what Ian highlights has the feel of something more deliberate.

Even if the Bank could show, with some degree of confidence, that investor property loans were riskier than those to owner-occupiers, other characteristics held equal, the case for the proposed ban on lending in excess of a 70 per cent LVR for residential investment properties in Auckland has serious weaknesses. I elaborated on those in my recent submission (and have also requested copies of all the submissions the Bank has received).

I’ve been critical of the Governor’s conduct of monetary policy over the last couple of years. But reasonable people will, at times, reach quite different views on what monetary policy stance is required. His turned out to be wrong although, as I noted this morning, he had plenty of company for too long.   But repeated misrepresentation of data to support a controversial regulatory initiative strikes me as much more serious. It might do less damage to the economy, but it strikes at the heart of the integrity of the institution, and raises serious questions about the extent to which the public can have confidence in the (unelected) Governor’s ability and willingness to carry out his statutory duties in the public interest, in an objective and dispassionate manner. Cynics might expect such standards from politicians. We certainly shouldn’t tolerate them from officials.

I hope that when Ian Harrison’s full paper is published, the Bank’s Board will start asking some pretty searching questions.  The Board is charged to, inter alia,

    • keep under constant review the performance of the Bank in carrying out—
      • (i) its primary function; and
      • (ii) its functions relating to promoting the maintenance of a sound and efficient financial system; and
      • (iii) its other functions under this Act or any other enactment:
    • (b) keep under constant review the performance of the Governor in discharging the responsibilities of that office:

Perhaps the Minister of Finance might refer the issue to Rod Carr, chair of the Board, for his views.

The Shadow Board on tomorrow’s OCR

The NZIER this morning released the results of its Shadow Board exercise. They survey nine people (currently three market economists, three business people, and three with academic affiliations) and ask them to assign probabilities for the “most appropriate level of the OCR for the economy”. In principle, I suppose “the most appropriate level for the economy” could be different from “the most appropriate level to be consistent with the requirements of the Policy Targets Agreement”, although I suspect that respondents will typically be treating the two as the same. Note that, in principle, the information in the Shadow Board responses is different from the information in financial market prices (which are close to a direct view on what the Reserve Bank will do – as distinct from what people think it should do) or from ipredict, which runs direct contracts allowing people to bet anonymously on what they think the Reserve Bank will do. When I looked just now, the prices reflected an 84 per cent chance of a 25 basis point cut tomorrow

Launching the Shadow Board was a modest but useful initiative by NZIER. It helps spark a little more debate, and a little more scrutiny, about what the Reserve Bank is doing, and puts the results in a useable (and reportable) format. It was inspired by a similar exercise in Australia (which is slightly more (too?) ambitious in that it also asks respondents for probabilities for the right rate six and twelve months ahead).

But what the Shadow Board doesn’t really do is provide any additional information on what the Reserve Bank should do. As everyone recognises, there is a great deal of uncertainty around monetary policy. Central banks talk of trying to target inflation a couple of years out, and yet have no great certainty even as to what is going on right now, let alone what will be going on 12-18 months hence.

Here is a chart showing the actual OCR following the relevant review and the median view of the Shadow Board (thanks to Kirdan Lees at NZIER for sending me the historical data).

shadow board 1

They are all but identical, at least over this relatively short period. And yet the Reserve Bank has subsequently acknowledged that, with the benefit of hindsight they would have had the OCR lower in 2011 and 2012.   And most observers would now agree that the OCR did not need to have been as high as it was over the last year.

Perhaps the information is in the distribution of probabilities rather than in the median view?  Here is the mean of the views of the Shadow Board members. It does deviate a little from the actual OCR, and perhaps during last year the Shadow Board’s views were a little more cautious than the Reserve Bank was. The Shadow Board’s mean view was a little below the actual OCR, while the Reserve Bank itself was still stressing upside risks and the probable need for further rate increases.

shadow board 2

And here are the 25th and 75th percentiles. Respondents collectively put at least a 25 per cent chance on something at or below the 25th percentile being appropriate, and at least a 25 per cent chance on something at or above the 75th percentile.

shadow board 3

It is striking just how tight these ranges are. I noted back in June that most individual respondents’ views seemed excessively tightly bunched, given the huge historical uncertainty about the appropriate OCR. This time around there is a little more dispersion. The Shadow Board exercise has now been running for 27 reviews, and this is one of only three in which respondents collectively put a less than 50 per cent weight on one particular OCR (the other two were January last year, when the Reserve Bank was just about to commence raising the OCR, July last year which proved to be the last of the OCR increases).  I doubt, if I’d been assigning my own probabilities, if I would ever have put even a 40 per cent weight on any particular OCR in any particular review.

One other way of looking at the scale of the uncertainty around the OCR is the fan charts that the Reserve Bank published in the June MPS last year.  These were somewhat controversial, and are hedged around with lots of caveats in the technical notes, but the Governor presumably regarded them as a sufficiently useful device to run prominently in the main policy analysis chapter of a Monetary Policy Statement.   On the subset of shocks and uncertainties considered in that exercise, the 90 per cent confidence interval for the 90 day rate (proxy for the OCR) two years ahead was some 400 points wide. Perhaps a little embarrassingly for the Bank, that range did not even encompass an OCR of 3 per cent or less by July 2015.

fan chart

What do I take from all this?   I’d probably make only two points:

  • There is a huge amount of uncertainty in running discretionary monetary policy.  Some would argue that it is a mug’s game and only likely to introduce additional volatility.  That isn’t my view, but the uncertainty (across a range of different dimensions) is large enough that in general everyone should be a little cautious in taking a stand on a particular OCR (of course, under the current regime, the Reserve Bank must take a view, in actually setting the OCR). Mistakes won’t be uncommon –  whether by commentators or central banks – and that should be recognised, with appropriate humility, by all involved.  Of course, Reserve Bank mistakes matter more because they are charged with the power to take decisions that affects all of us in one way or another.
  • That very uncertainty highlights just how important it is that there is robust debate around a range of perspectives.  In this post, I haven’t looked at the diversity in the individual respondents’ views (partly because the panel of respondents has kept changing, and the sample is quite short), but looking through that data there hasn’t been much diversity of view across respondents either (with the creditable exception earlier in the period of Shamubeel Eaqub).    It is very easy for consensus views to form – both within the Reserve Bank – and in the wider New Zealand debate more generally.  And yet those consensus views will often be wrong.  Sometimes those looking at New Zealand from the outside have had a better take on things, but I doubt that has been consistently true (in the last year, HSBC in Sydney has been running the “rockstar economy” story, while other offshore players were rather more sceptical of the Reserve Bank’s continuing tightening cycle).  Encouraging that diversity of perspective is particularly important within the Reserve Bank, and yet it can be hard to maintain.  That is probably true in all central banks, but is a particular risk in our system, in which the Bank’s chief executive controls resources and rewards and is also single monetary policy decision-maker.  A very good single decision-maker would probably want as much debate and challenge as possible, recognising just how uncertain the game is.  A less-good one would find it too easy to discourage debate and challenge –  while never explicitly saying so, or perhaps even meaning to – preferring material that supports the decision-maker’s own priors and predilections.

David Parker and non-resident housing demand

David Parker has an interesting piece in the Herald, on how the various free trade agreements New Zealand governments have signed affect the ability of New Zealand to restrict non-resident purchases, should it wish to do so.  The heart of his argument is here:

The most favoured nation provision in article 139 does apply to existing investments and controls on new investments. If we want to further restrict the sale of farmland or houses to Chinese investors, we can. Article 139 simply requires NZ to treat China no less favourably than other countries. Clause 3 of article 139 means earlier agreements with our Australian and Pacific Island neighbours are not affected, and do not flow into the China FTA. Later agreements do flow through.

National does not believe there should be more restrictions on foreign buyers, and so the South Korean FTA does not contain the protections found in the China FTA. This creates risks if New Zealand moves to restrict or ban South Korean investment in residential property. Screening or bans are allowed for existing categories but not new categories, that is farms but not houses.

Article 139 of the China FTA means NZ can’t properly ban sales to Chinese investors but allow them to South Korean investors. Even the South Korean FTA does not limit the sovereignty of a future New Zealand government to restrict house sales to foreigners, but it does create a risk of South Korean claims.

If Parker’s reading is correct, it does appear to leave some options open. According to the MFAT website, the New Zealand-Korea FTA has not yet been ratified, and so is not yet in force.

Rodney Jones proposed a 20 per cent stamp duty on non-resident purchases in Auckland. Such restrictions or taxes are not a first-best solution. Particularly if the non-resident demand from China is likely to persist over the medium to long term, it would be much better to liberalise land-use restrictions and make it much easier to supply new houses and apartments. It is an export industry.  (But if the demand was likely to prove pretty short-term in nature, it might actually be preferable to simply absorb excess demand in temporarily higher house prices.)

But I don’t see any sign of wide-ranging liberalisation of land-use restrictions in the next few years. As I’ve noted previously, I’m not aware of other countries or major cities that have had tight supply restrictions and materially and sustainably liberalised them. Surely it must come some day, but regulation once established tends to linger for a long time. Import controls, from New Zealand’s history, were another good example.

I don’t think there is any obvious welfare gain for New Zealand in allowing extensive non-resident purchases of houses/apartments if governments also make it hard to bring new urban land to market and utilise it intensively in response to changes in demand. There is none of the technology transfer that might be associated with FDI. There is simply a redistribution – windfall gains to those who happen to own property in Auckland before the demand picked up, and windfall losses to those who would have wanted to purchase in the future. And the gain is simply the result of government-imposed and maintained supply restrictions. In that climate, I see no major problem in principle with some sort of restrictions.

And yet, I remain a little uneasy. In terms of accommodation itself – surely more important than home ownership – it is purchases of houses that are then left vacant that have the stronger adverse effects. Houses that are bought and put back on the rental market maintain the supply of accommodation. And yet we have no data on how important this “left vacant” component might be, and I don’t think the new post-October information requirements will provide any data on this split. Given that demand for house-buying seems relatively price-inelastic, even if the “left vacant” component is itself quite small, as a marginal boost to demand it could still be having quite an impact on price.

Perhaps this is where advocates of the Australian rule (“you can buy, but only a new build”) come in. The Australian rule doesn’t seem to have been very effective, but perhaps a similar one could be much more effectively policed if the authorities were serious about doing so? Perhaps it really is the minimally distortive approach if there is to be new regulation at all? The caveat to that proposition is that if the offshore demand were to prove short-lived we could be left with a nasty over-supply of the sort of housing not overly popular with most New Zealanders. An ample supply of (cheap) apartments sounds good, but real resources will have been diverted into building the properties, skewing the rest of the economy. Real resource misallocation tends to be more costly than changes in asset prices in isolation.  Perhaps that should be less of a concern starting from current house/land prices than in other circumstances?

I’m usually reasonably settled in my views as to appropriate policy responses. For now, on this issue, I’m not. Waiting for October’s data is a convenient line, but I suspect it is a bit of a cop-out. I am left rather closer to Rodney’s 20 per cent stamp duty than I was previously.

Fiscal and monetary policy interactions: some New Zealand history

The role of fiscal policy has been much-debated in recent years. I think the consensus view now is that discretionary adjustments to fiscal policy make little difference to GDP in normal times, because monetary policy typically acts to offset any demand effects. By contrast, if interest rates can’t go any lower (or central banks for whatever reason are reluctant to take them lower) then discretionary fiscal policy adjustments can have quite material impacts on near-term GDP behaviour.

These debates focus on demand effects. If the government spends less, without changing tax policy, spending across the economy as a whole is likely to be dampened to some extent, all else equal. But there are also stories about confidence effects. If the overall economic and fiscal situation is sufficiently fragile, then in principle tough and credible new fiscal initiatives could lift confidence sufficiently that the confidence effects overwhelm the demand effects.  This was the vaunted “expansionary fiscal contraction”. I’m not sure I could point to any examples in advanced countries, but others read the evidence and case studies a little differently. I’m not wanting to buy into debates about Greece here – but “credible” was perhaps the operative word in the previous sentence.

Before 2008, there was a variety of historical episodes that people often turned to when looking at the effects of fiscal contractions.  The UK experience in the early 1980s and the Canadian experience in the mid-1990s got a lot of attention.  I think the best read on the Canadian episode (with more extensive treatment here) was that substantial fiscal contraction did not have adverse effects on the Canadian economy because interest rates fell sharply,the Canadian exchange rate fell in response, and the United States – Canada’s largest trading partner – was growing strongly.

And then there was New Zealand’s experience around 1990/91. After several years of significant fiscal consolidation (which had been sufficient to generate material primary surpluses), new fiscal imbalances had become apparent by late 1990. In a major package of measures in December 1990, and in the 1991 Budget, substantial cuts to government spending were made. In combination with the earlier efforts (which were probably more important), these cuts helped lay the foundation for the subsequent decade or more of surpluses.

Former director of the Business Roundtable, the late Roger Kerr, was prone to argue that it was an example of an expansionary fiscal contraction. I’ve repeatedly argued that it wasn’t. Certainly, the recession troughed at much the same time as the 1991 Budget and the subsequent recovery was pretty strong. And, as Kerr noted, the academic economists who publicly argued that the fiscal contraction could only depress the economy further and would prove largely self-defeating ended up looking a little silly.     But the recovery had much more to do with the very substantial fall in real interest rates – as inflation was finally beaten – a substantial fall in the exchange rate, and with the recoveries in other advanced economies than with any confidence effects resulting from the tough fiscal policy measures.   By mid-1991, the new National government’s political position was so fragile that no one could have any great confidence that the fiscal stringency that was announced would be sustained (and, indeed, several of the higher profile measures were subsequently reversed). The rest of the macroeconomic policy framework, including the Reserve Bank Act, were in jeopardy. Elected in October 1990 with a record majority, the National party was 15-20 points behind in the polls only a year later, and only scraped narrowly back into government in 1993.

A few years ago, there was renewed debate here around the appropriate pace of fiscal consolidation. At the time, the government had large deficits, and the exchange rate had risen uncomfortably strongly from the 2009 lows. Some argued for a faster pace of fiscal consolidation, arguing that to do so would ease pressure on interest rates and the exchange rate. It had been the thrust of Treasury advice, and some outsiders were also making the case. Among them was then private citizen Graeme Wheeler, who had had a meeting with John Key and Bill English and had reportedly cited the experience on 1991, noting that monetary policy could offset any demand effects of faster fiscal consolidation.   Reports of this conversation had been passed back to the Reserve Bank.

Not many people at the Reserve Bank knew much about that earlier period. Newly-returned to the Reserve Bank from a secondment to Treasury, I wrote an internal paper discussing the interplay between fiscal and monetary policy over 1990 and 1991, including addressing some of the “expansionary fiscal contraction” arguments. It drew extensively on previously published material, on the now-archived files I had maintained during the late 1980s and early 1990s (as manager responsible for the Bank’s Monetary Policy (analysis and advice) section, and from my private diaries.

The Reserve Bank finally released this paper yesterday, with a limited number of deletions (I have appealed these deletions to the Ombudsman, given that they relate to events of 25 years ago, and in some cases involve deleting quotes from my own private diaries). The Bank is obviously uncomfortable about the paper. Despite the fact that the paper draws extensively from contemporary records – most of which are in the Bank’s archives – and was run past (in draft) several of senior people from the Reserve Bank in the early 1990s, the Bank has included a disclaimer on each page suggesting that the paper is primarily based on my memories, which it can’t vouch for. But, to be clear, it draws primarily on contemporary records, trying to document and explain historical events, and then to interpret them to an audience used to different ways of conducting monetary policy. Different people may read the same evidence in different ways, and access to a fuller range of records could alter some perspectives. As an example, while my files had copies of many Treasury papers, and records of many meetings with Treasury officials, I did not have access to a full set of Treasury papers comparable to the collection of Bank papers I used. As background, Graeme Wheeler was the Treasury’s Director of Macroeconomics in 1991.

A copy of the paper is here (two separate links, as that is how I got it from them).

Memo to MPC – Fiscal policy, monetary policy and monetary conditions part 1

Memo to MPC – Fiscal policy, monetary policy and monetary conditions part 2

This was an extremely tense period. The Reserve Bank Act had come into effect on 1 February 1990, and although both main parties officially supported it, it was contentious in both caucuses. In the National Party caucus, Sir Robert Muldoon and Winston Peters had been the leading sceptics. The Labour Party was almost equally split, and Jim Anderton had left the party over the direction of economic policy. Going into the 1990 election, no one knew which wing would dominate the (probable) new National government, nor which tack the Labour Party would take once it was in Opposition. Economic times were tough, and patience with the Reserve Bank was wearing rather thin as the disinflationary years dragged on. It wasn’t helped by the system for implementing monetary policy that we were using (documented here) which at one point led to our efforts being described by Ruth Richardson in Parliament as comparable to those of Basil Fawlty in the comedy classic. (Treasury and the Bank were actively at odds over the implementation arrangements – they variously hankered after money base targets or, on occasion, exchange rate rules[1]).

Last night I reread some of my diaries from the period, and dipped into Ruth Richardson’s book, and Paul Goldsmith’s biography of Don Brash, and was reminded just how fraught the period was. We spent most of 1991 not knowing whether, or how long, the monetary policy framework would last, and whether the senior management would survive. Ruth Richardson records that even at the end of 1991 when the worst of the pressures were beginning to ease, the Prime Minister Jim Bolger, in a meeting of senior ministers, canvassed the possibility of changing the Reserve Bank Act to provide an impetus to growth.

The Bank had for some time publicly argued that there was no problem with the exchange rate. As a result the Bank’s position with the new government was not helped by a change of stance quite late in the piece: the new view was that a lower real exchange rate was likely to be required to rebalance the New Zealand economy. This was an important theme in the Reserve Bank’s 1990 post-election briefing, and took the incoming Minister of Finance quite by surprise. The Reserve Bank openly making the case for a lower exchange rate seemed to provide ammunition for some of her caucus and Cabinet colleagues who were less convinced of the overriding importance of macroeconomic stabilisation.

She would have been more aghast had she realised that until the very eve of the election the Reserve Bank had been planning to recommend stepping back from the 0-2 per cent inflation target itself. This had been the outcome of some mix of unease over how (excessively) mechanical the first Policy Targets Agreement had been, and a wish to allow room for the desired depreciation in the exchange rate. The suggestion had been to keep a medium to longer-term focus on a 0-2 target, or perhaps redefine it to 1-2 per cent, but to add a 0-4 per cent “accountability range”, within which inflation could fluctuate without triggering severe accountability consequences. We stepped back from that recommendation at the last minute, in large part because of the view that to have recommended that sort of change would have left Ruth Richardson out to dry, as the only defender of a 0-2 per cent target, exposing her to (in the words of my diary two days before the election) “Peters’ and Muldoon’s ridicule and Bolger’s incomprehension”.

In terms of the fiscal policy dimensions, one of the Reserve Bank’s deletions in from this extract from my diary a couple of days after the election:

We had a marathon session in Don’s office (from 8-11) going thru para by para agreeing on a text with DTB finally showing his impatience with the last minute chaos. Changed fiscal tack in favour of a tough stance now, to help cement-in any exchange rate depn and, as important as anything it seemed, to help the Richardson faction in Cabinet.

What this captures is the somewhat uncomfortable extent to which the Reserve Bank (and Treasury, as we shall see) in this period were focused on supporting, or at least not undermining, those political players supporting the sorts of frameworks and reforms that the Bank and Treasury favoured. In the Bank, senior management came to a view in 1991 that saving the framework (the Act) was, for now, more important than price stability itself (as least in the short-term). Sceptics of this stategy – I was one – caricatured it as “the Reserve Bank Act is more important than price stability”.

Even with the benefit of long hindsight, I’m not sure what to make of the approach taken at the time. On the one hand, it is somewhat distasteful – neither the Governor nor the rest of us were elected – but on the other hand, perhaps it is just what inevitably happens in any fraught and controversial period. As it happens, we probably gave quite unnecessary ammunition to the opponents of reform through this period. In small part this was because we communicated badly and ran an implementation system that – with hindsight – was pretty bizarre. But more importantly, we held monetary policy too tight for too long – not to make any points, or reinforce any positions, but simply because we misread how strong the disinflationary forces were by then. In a serious recession, that was black mark against the Bank (and I was one of the more hawkish people on the Reserve Bank side).

During 1991, the Treasury became very focused on supporting the political position of Ruth Richardson as Minister of Finance. Some of this is captured in the paper. But much of I didn’t include, since the focus of the paper had been on the fiscal/monetary interplay. On page 15 of the paper, the Bank seems to have deleted some of this extract from my 4 September diary”

David [Archer] and I had lunch with Graeme Wheeler and Howard [Fancy][2] and were treated to a litany of gloom, of how we needed to be supporting the macro policy mix and helping get the recovery going and being very concerned about the political risks. As GW said “I wouldn’t want history to look back on me as a policymaker and say that in my confidence about the framework I hadn’t taken adequate precautions” – referring to the Bank. He was going on about how we had a “near-perfect” mon pol framework for the medium-term but that at the moment we needed to be more flexible. Both were concerned to play down 0-2, with vacuous waffle about “best endeavours” but taking the view that, in effect, 2-4% inflation wouldn’t worry them. ….. Apparently Bolger is getting worried about 1981/1932 re-runs: mass demonstrations, violence in the streets etc.

Only a few months previously the Treasury had been openly sceptical that macro policy was sufficiently tight.  It wasn’t always clear how well Treasury was reading the politics either – I had a very good relationship with Ruth Richardson’s own economic adviser, Martin Hames, and on the evening of the deleted extract above I recorded a long conversation with Martin in which “he still claims there are no real threats: says things were a lot worse at times in Oppn”.

This has been become rather a long post. It is partly about providing some context for those who think about reading the whole paper. Here are a few of my bottom lines:

  • Had we been running a now-conventional system of monetary policy implementation, many of the less important of these tensions and ructions would not have arisen.  When demand and inflation ease –  whatever the source –  the OCR is generally  cut.
  • While, with the benefit of hindsight, New Zealand was probably always going to settle at a low inflation rate (all other advanced economies did) that wasn’t remotely clear at the time.  In particular, the initial passage, and the survival, of the Reserve Bank Act was a much closer-run thing than is generally recognised. Infant mortality was a real threat
  • Neither the Reserve Bank nor the Treasury covered themselves with glory through this period in their macroeconomic analysis and policy advice.

[1] Murray Sherwin presciently argued that we should adopt an OCR. I’m still embarrassed by the note I wrote in response to that suggestion.

[2] David was the Bank’s deputy chief economist, and Howard was Treasury’s macro deputy secretary.

72 per cent want to restrict “junk food” advertising

I’m not among them.

According to the Herald 72 per cent of respondents to a recent survey favour greater government controls on “junk-food” promotions to children. Similar numbers wanted to restrict or ban “unhealthy” food brands sponsoring children’s sport.  A couple of mothers are interviewed in support of such restrictions, citing the dreaded “pester power”.

As I said, I’m not among the 72 per cent. I have three kids, have done all our family shopping for years, usually have at least one child with me when I’m at the supermarket, and two of my children play team sports, where “player of the day” certificates/prizes often come from outfits like Hell Pizza or McDonalds.

But, you know what, we just say no. I don’t encounter very much “pester power” in the supermarket aisles, and when I do I almost always say no. The children watch some television – admittedly not much of it free-to-air – but they know what it is worth pestering me about (“how about making a goat curry, pleeease Dad”) and what it is not. And they aren’t fed on an unremitting diet of lentils and kale either – we have a dessert each evening, consistent with my constant message to them (contrary to the one the schools propagandize then with) that “what matters is a balanced diet and plenty of exercise. Both kids won player of the day certificates on Saturday, but we don’t let them take advantage of the free pizza at Hell Pizza (as it happens, not because it is “junk food” but because we deplore the values that company promotes).  I hope Hell Pizza fails, but I certainly don’t think it should be banned, or should be unable to promote its business.

Just say no. It isn’t really that hard. Start young, but start. Why would we want to contract out responsibility for raising our children to the government? Too much of life is already spent trying to reverse the pernicious effects of propaganda (“evils of capitalism”, for example) from state schools.