The Raft of the Medusa and New Zealand monetary policy

I learned something from Graeme Wheeler’s speech this morning. Having not gotten round to reading Andrew Graham-Dixon’s Caravaggio, which has now lingered on our bookshelves for five years, it hadn’t occurred to me that the Gericault painting The Raft of the Medusa was influenced by Caravaggio; in Graham-Dixon’s words, it is a “modern secularised version of an altarpiece by Caravaggio”.

It is a striking painting, but this was a strange speech – and nowhere more so than in the concluding reference to The Raft of the Medusa.

There was plenty of routine material I agreed with. It gets boring to say it, but central bankers have to go on making the point that monetary policy has no material impact on longer-term real interest rates, longer-term average real exchange rates, or the longer-term real growth performance of the economy. For 25 years, real interest rates and the real exchange rate have averaged too high here, and real per capita growth has been too low. There are things that could have been done to change that, but changing the monetary policy framework isn’t one of them.

But beyond that it all got rather strange. He started his speech with the references to Caravaggio to play up the dark and turbulent nature of the last few years (as he sees them). How difficult it all is for small country central banks. More so, he suggests, than previously.

I guess Graeme Wheeler is a latecomer to central banking. He’s been Governor for only three years and spent most of his career doing stuff other than macroeconomic policy. So perhaps recency errors should be pardoned. But it isn’t clear why he thinks, or wants us to think, that his job is harder than that of his predecessors (Don Brash, the challenges of disinflation, or Alan Bollard, and the massive credit boom). Self-pity is rarely an attractive quality, and perhaps especially so when it comes from highly-paid powerful public officials. The Governor has been given a relatively straightforward job to do by Parliament, and – unlike many of his offshore peers – he still has all the conventional tools at his disposal. He has made some mistakes along the way, as his predecessors did (and his successors no doubt will too), but it just is not that hard to get it roughly right.

There are some analytical puzzles to be sure, but we (taxpayers) don’t pay Wheeler to answer all those. We pay him to keep medium-term trend inflation near 2 per cent. And he hasn’t done that job very well. Inflation has surprised on the weak side for several years. It has surprised both the Bank and the markets, but the Bank has the job of delivering inflation near target. Having fairly consistently failed to do so, a reasonable rule of thumb might have been something along the lines of “core inflation has been below the midpoint of the target for so long, and we don’t fully understand why, so we’ll hold fire, and not raise interest rates until (say) core inflation is actually back to around 2 per cent”. It isn’t a perfect rules – in an imperfect world there are no such rules – but it would be better than what we’ve had.

Part of Graeme Wheeler’s defensive strategy – which shouldn’t really be needed, because there should be no great shame in recognising a mistake and owning up to it – is to cloth himself in the problems of other countries. Many other advanced economies have also struggled with at best modest (per capita) economic recoveries, and surprisingly weak inflation. But most of those countries had little or no conventional monetary policy ammunition left. Interest rates were at zero. I don’t think Wheeler’s speech even mentions the point.

By contrast, New Zealand’s OCR at 2.75 per cent means the Governor (and his predecessor) had plenty of room, if he (they) had chosen to use it, to secure a rather more conventional recovery in New Zealand. As I’ve pointed out previously, in conventional New Zealand recoveries we see a couple of years of 4-5 per cent GDP growth. We’ve seen nothing like that since 2009, despite the very rapid population growth in the last year or two. The number of people unemployed has stayed high, and has recently been rising again. That isn’t because of the travails of the rest of the world, but because of the Governor’s misjudgements. Inflation wasn’t rising. He didn’t need to raise interest rates.

As he winds up his general observations, Wheeler includes a couple of other curious paragraphs. He claims that “economic management has come a long way since Paish described it in the 1960s as like driving a car with a brake and an accelerator and only being able to look through the back window.” He backs this claim, that things have come a long way, by reference to sophisticated models used by central banks today [and when is that expensive model, developed at taxpayers’ expense, finally going to be published?]. But then he changes course midstream, concluding that really the models can’t tell one much and are more use for posing questions than delivering answers. I entirely agree with that final observation, but then it is a puzzle as to why the Governor thinks that economic management has improved a lot since the 1960s. As the Governor found with his ill-fated tightening campaign last year, forecasting remains hard, especially about the future. And even the rear-view mirror is prone to mislead at times.

And then Wheeler winds up the whole speech with his paragraph about The Raft of the Medusa, the “forlorn and exhausted sailors” and the “wild seas” which are apparently “symptomatic of the world central bankers are trying to navigate”. It is all bizarrely self-pitying, especially for a Governor with instruments at his disposal. The steering wheel isn’t broken.  The hull isn’t holed.

Here is the Wikipedia summary of the story of the painting.

it is an over-life-size painting that depicts a moment from the aftermath of the wreck of the French naval frigate Méduse, which ran aground off the coast of today’s Mauritania on July 2, 1816. On July 5, 1816 at least 147 people were set adrift on a hurriedly constructed raft; all but 15 died in the 13 days before their rescue, and those who survived endured starvation and dehydration and practiced cannibalism. The event became an international scandal, in part because its cause was widely attributed to the incompetence of the French captain

Great painting, but of a terrible event, for which the captain had to take blame.  The French public knew that.

The mismanagement of New Zealand’s monetary policy in recent years springs to mind. Fortunately, no one dies from those sorts of mistakes, but thousands of people are unemployed today who would not have been if the Reserve Bank of New Zealand – and specifically its Governor – had not made repeated choices – and it was pure choice, unlike the situation in ZB countries – to hold interest rates persistently higher than they needed to be. The apparent indifference of New Zealand’s elites – and of the Governor and his Board – to the awfulness of the involuntary unemployment (“forlorn and exhausted”?) is something I still struggle to understand.

12 thoughts on “The Raft of the Medusa and New Zealand monetary policy

  1. Wheeler is struggling because we are all used to believing that NZ is a highly indebted country but the reality is it is not. NZ Household liquid assets, cash savings and investments in shares and bonds exceeds NZ Household debt. Higher or lower Interest rates do not affect NZ households overall. But higher interest do affect businesses that do rely on borrowed funds for liquidity. Therefore if interest rates are pitched too high the building industry takes a dramatic hit as developers rely heavily on development finance. Margins in development is very low.

    When Wheeler started raising interest rates he did cause the loss of jobs especially in the development and building industry.


  2. At least 18 months ago there was a draft Discussion Paper in the works, in which it was intended to release the model, so I’m not at all sure why it hasn’t come out (at the time there was no reluctance to release it). It is one of those things that just should be released on principle, even though it won’t shed much/any light on the Bank’s policy choices. One of the nicest things about the new stable of models is how easy it is to impose external judgement and get back reasonably sensible consistent results – ie really useful for generating tables and charts, but less so for answering the hard questions.


    • Thanks. I have to say that, having had a crash course in modern macro recently for a project I’ve been banging away at, I am profoundly unenthused about these new stables of models: if you’ve got a copy of Romer’s Advanced Macroeconomics lying around, and you turn to the ‘Discussion’ at the end of Chapter 7, I’m right down the sceptical end of that spectrum. But that’s for another day – I quite agree with you that the RBNZ model should be released on principle


  3. Great post as always Michael.

    I thought his comment that they want to ‘have sufficient capacity to cut interest rates
    if the global economy slows significantly’ was the most disappointing aspect of a disappointing speech. Unfortunately, Wheeler seems to have fallen into the trap of believing that interest rate cuts in and of themselves mean stimulatory monetary policy – the same misplaced logic that has been bandied about as a reason for the Fed to hike — so they have ‘room’ to cut later. As one wise blogger put it – this is like keeping your shoe laces tied so tightly that it cuts off your circulation, just so it feels good to loosen your laces later. Scott Sumner provided a good take-down of this argument here, but interesting/saddening to see that it pervades even amongst ‘top’ central bankers.


    • A rate cut is stimulatory for some sectors especially the development and building sector which rely almost 100% on development finance to fund a development. So if you want more houses build then you would have to drop interest rates. The rush to increase interest rates by all our RB governors including Don Brash and Allan Bollard decimated the building industry leading to severe shortages in building activity which gives us our out of kilter high property prices.


  4. The Gov. is a sad depressed looking tired old man. totally out of his depth.
    Well, as is the Act that he works under.
    and english is still abeleiver.

    Just as lowering rates won’t bring inflation up putting up rates didn’t bring it down, just killed economic activity.

    Our inflation is well beyond anything we can do in NZ to control it and anyway it isn’t the right target for the RBNZ.


    • Robert, agreed, inflation targetting is not the best measure in the modern era because with increasing automation and the advent of the Robot workforce production capacity to meet consumption demand is unlimited. This means we are going to get used to dealing with cheaper and cheaper prices.

      The RBNZ needs to modernise and plan for an increasing number of people out of work, either unemployable or old and retired. Rather than a interest rate response we should have a Variable Superannuation rate that puts more cash into our existing workforce to prep for a significant number of people in retirement. Retailers would have towards an older population to sell goods and services and so does the RBNZ.


      • Correction, not more cash into our existing workforce, I meant more savings in superannuation. The idea that increased interest rates leads to higher savings is just very poorly understood by our NZ economists. As NZ Household liquid assets almost equate there is no net gain to to NZ Households overall.


  5. Have to disagree with your second para. But on this occasion, even if you are right about inflation, it would still be better to cut the OCR further, to lift per capita growth and lower unemployment. If the unemployment rate dropped to say 4.5% I’d become a lot more cautious, but even then the US in the 90s found that they could get the unemployment rate surprisingly low without seeing much of a rise in inflation.


    • Increasingly factories are being mechanised which means increasing production capacity to meet consumption demand is a simple matter of adding another robot with no wage pressures and no price increases as margins is unaffected or even improved with additional investment in automation.


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