The inquiry into the possible OCR leak

I see that Stuff has an article up about the Reserve Bank’s inquiry into the possible leak of the OCR decision.

Michael Reddell, a former senior economist at the Reserve Bank, who now runs a blog which has been sharply critical of the central bank, claims he was told that the official cash rate (OCR) would be cut an hour before the decision was announced.

The Reserve Bank has confirmed that following an allegation, it had launched an investigation.

“We are aware of an allegation that information may have been leaked ahead of the OCR announcement on 10 March,” a spokesman of the bank said.

There is no “claims” about it. I have given a copy of the email (minus the name of the sender) I received at 8:04am on the OCR release day to the Reserve Bank’s inquiry.  That email read as follows:

We have just heard that the Reserve Bank is cutting by 25 basis points.

I have been consistently clear that the email in its own right is not confirmation that a leak occurred,  but it is troubling nonetheless, and raises the serious possibility of a leak.  When I drew the matter to the attention of the Reserve Bank, they also expressed immediate concern and appropriately moved to initiate an inquiry.

When I first received the email, I was not sure what to make of it.  I checked the exchange rate pages and was relieved to find there had been no movement.  I also wasn’t sure whether to believe the report  –  after all, a cut was not widely expected that day.  Seeing no movement in the exchange rate, not being sure if the report was accurate (and not wanting to be scoffed at by the Bank if they weren’t in fact cutting), and knowing that the key Reserve Bank people would in any case  be in lock-ups, I did not pass on the information to the Reserve Bank (John McDermott and Mike Hannah) until shortly after 9am on MPS day.

I still fervently hope that the investigation is able firmly to conclude that no leak occurred.  Regardless of whether it did or not, the risk of leaks remains and the Bank would be wise to tighten up its procedures and further reduce the risks.




A period piece: the NZ financial sector following nuclear war

On Saturday one of the local churches was holding a garage sale.  My 9 year old likes such sales, searching out additions to her collection of small treasures.  But this sale also had several boxes of books they were giving away –  titles sufficiently obscure that no one, it was thought, would even pay a dollar or two for them. My family stocked up on books, and among our pile was a period piece, a report by the New Zealand Planning Council “New Zealand After Nuclear War”.

This report was published in 1987, funded from $125000 allocated by the then government from “reparations paid as a consequence of the sinking of the Rainbow Warrior in Auckland Harbour”.  It even, so I just discovered, got a mention in the New York Times.

The scenario the authors used was a pretty serious one –  a major nuclear war in the Northern Hemisphere, and a limited number of nuclear strikes, mostly on defence and communications related facilities, in Australia.  New Zealand isn’t directly involved in this war, but we hardly escape unscathed.  Apart from anything else, we were (and are) heavily dependent on foreign trade.  One of the aspects of the scenario is an electromagnetic pulse which, apparently, could have undermined (“instantly cripple”) computers, phones, electricity networks etc.

I haven’t read the full report, but the chapter that caught my eye –  in this age of stress tests –  was “Initial Impacts on the Financial Sector”.   The authors don’t seem to have consulted the Reserve Bank, but they did talk to Treasury, to at least one of the banks, and glancing through the list of acknowledgements I saw various names of people with banking or related backgrounds.

All the chapters are brief, but this was a serious attempt to think through the issues, albeit perhaps in way that assumed a degree of post-war resilience that doesn’t quite ring true.

I was initially staggered at the suggestion that banks might need to shut for only a couple of days, as much because staff might be unsettled as for any other reasons

bank closure

But as I read on, the authors were very conscious of some of the other problems.  The risk, for example, that electronic records could be destroyed, or barely usable.

bank closure 2

And, in the longer-term even more importantly, the extreme uncertainty about asset values.

asset values

What, for example, would be a book full of dairy loans be worth in a world in which much of the population abroad had been wiped out?  Or, since this was 1987, what might loans to Judge, Equiticorp, Chase and so on have been worth.  Oh, but I forgot, not much anyway.

They see a considerable role for government support for the banking system.

govt support

And conclude, perhaps least plausibly, with the suggestion that pre-war planning might “moderate the adjustment process”


I don’t want to be particularly critical of this piece.  If from this distance the prospect of nuclear war seems less real than perhaps it did in the 1980s, it is still worth thinking these sorts of issues through, and people do what they can in the time they have –  in the case of this report, that was not overly much time.  And I spent quite a lot of time over the years in planning for some, rather less severe, contingencies –  Y2K, and as part of the wider government planning a decade or so ago around bird flu risks.  I led a team inside the Reserve Bank working on policy and banking system preparedness for bird flu.  As a result of that work two bankers’ reactions are seared in my brain: the senior manager at TSB, clearly unimpressed at having us visit, who turned around, and pointed out the window towards Mt Egmont and announced “we have more immediate risks we prepare for here”, and the head of risk at one of the major banks who told us very confidently, when we asked about rollover risks for offshore funding in the event of a global bird flu, that such markets could and would never seize up (this a mere two years before the crisis).

But there were still a few surprises about the report.  Perhaps because it was written only a couple of years after liberalization, there is not a single mention of the exchange rate, or interest rates, in the entire chapter.  These days, I’m sure people would put much greater attention on the panic and market chaos that would be likely to ensue as this (scenario) nuclear war was getting underway.  The aftermath might be truly awful, even in New Zealand, but the transition would be really pretty bad too.  The global financial panic in the first days of World War One was documented in a recent book, and bad as World War I turned out to be, no one had any sense of the scale of that disaster when extreme financial crisis nonetheless ensued.  Since the aftermath of nuclear conflict might be almost unknowably awful, if authorities were ever to think of contingency planning for remote events of this sort, it might be more productive to focus their efforts on the period in which hope is fading, fear is soaring, but the institutions and infrastructure have not yet been destroyed.

Credit pre-dates money, and relies on trust.  But in what could anyone trust in the sort of world the authors of this Planning Council report try to grapple with?


The Ombudsman on the OIA

The new Chief Ombudsman, Peter Boshier, had some encouraging comments in his interview about the Official Information Act with TV3’s The Nation that was broadcast over the weekend (transcript here).

In some cases, they involved walking back some earlier surprising comments.  In an interview with Fairfax only a couple of months ago Boshier said that, despite the huge backlog of complaints and very long delays

Turning to parliament for more resources and money wasn’t tenable, he said,

But now he tells us that he has a request before Parliament for more budget resources

That request should fall on receptive ears.  In their recent financial review of the Office of the Ombudsman, Parliament’s Government Administration Committee noted that, despite the efforts of the previous Chief Ombudsman to improve efficiency

Nevertheless, we believe the Office is under-resourced and over-worked, and would benefit from additional resources.

Boshier talks in a way which suggests a commitment to making the Official Information Act work in a way that respects, and gives tangible form to,  the stated purpose of the Act

The purposes of this Act are, consistently with the principle of the Executive Government’s responsibility to Parliament,—

(a) to increase progressively the availability of official information to the people of New Zealand in order—

(i) to enable their more effective participation in the making and administration of laws and policies; and

(ii) to promote the accountability of Ministers of the Crown and officials,—

and thereby to enhance respect for the law and to promote the good government of New Zealand:

and its Principle of Availability

The question whether any official information is to be made available, where that question arises under this Act, shall be determined, except where this Act otherwise expressly requires, in accordance with the purposes of this Act and the principle that the information shall be made available unless there is good reason for withholding it.

He spoke several times of his view that we should think of it as a freedom of information act (the title used in several other countries), noting

I think that there should be a premise that why don’t we make information available? Let’s start with the default position of ‘why not?’ instead of ‘why should we?’

Although he didn’t mention it, greater use of pro-active release of material by ministers and agencies would be consistent with this sort of approach (and typically cheaper for agencies too).

Boshier is planning to meet with all the political parties in Parliament to discuss his expectations and aspirations, and the standards to which he will be holding government agencies.  It is though perhaps a little disappointing that instead of meeting with the Prime Minister and/or the Minister of State Services, he will only be meeting the Prime Minister’s chief of staff.

But his goals seem good.  He says he isn’t going to tolerate agencies going against the spirit of the Act in respect of meeting deadlines –  using all 20 working days, rather than releasing material as soon as reasonably practicable (the statutory requirement).  That sounds good, although I had a conversation a few weeks ago with one of his staff that suggested that that attitude has not yet seeped all the way down the organization –  or at least that staff can still be too trusting of agencies and their excuses for delays.

In one concrete measure,

when we get a complaint or an official information request and we ask an agency’s view, we will give them 28 days. I think it’s too long, so I’ve started to a) cut down that down to something like 14

And he is hoping to use any additional resources to clear out the current backlog (650 cases more than 12 months old) and get the Office onto a basis in which 70 per cent of complaints can be resolved within three months, and all complaints dealt with in 12 months.  If that can be achieved, it would be a huge step forward (but would, no doubt, prompt more complaints, since people might believe a complaint might actually make a difference, in timeframes that matter).  There was talk of greater use of ADR techniques, which sounded interesting, but there were no specifics.

Boshier also announced that

as of the 1st of July, we intend to move towards publishing what I’ll call league tables. We pretty much know who are really good compliers with the act and those who are not, and probably it will be good for the public to know that as well.

It sounds very well-intentioned, but I’m a little skeptical.  We will need to see the details of what is planned, and the Office of the Ombudsman will need to be willing to revise those details in the light of experience.

The Official Information Act, and its local government counterpart, covers a huge number of organisations (including every school Board of Trustees) most of which probably get very few requests (or at least very few that they consciously treat under the provisions of this legislation).  I wonder which organizations the Office is planning to cover in its league tables?

Perhaps a list that encompassed each government minister, public service departments, non public service departments, the Reserve Bank, and some of the larger crown agents, autonomous crown entities, and independent crown entities might be a good place to start.

But perhaps more importantly, what are they planning to measure and report?  If league tables are to be used to heighten pressure on agencies, and yet those league tables can be easily or materially gamed, they could be almost worse than useless.

Much of what we should care about in respect of compliance with the Act isn’t easily measured in ways that are amenable to league tables.  It is about compliance with the spirit and principles of the Act.

It might be useful to know how many OIA requests have been responded to within 20 working days, and track those proportions for each agency over time, but…..if many requests are of a sort that should be turned round in three working days, and others are genuinely complex, how is that going to be reduced to a useful league table?

At present, when agencies respond to occasional requests about how many OIA requests they receive they have no particular incentive to gloss the numbers.  Technically, any request to any agency for information, of almost any sort, has to be treated as if it were explicitly a request under the OIA, but few count every approach.  League tables, designed to exert pressure, change the incentive.

Take the Reserve Bank as one illustrative example (and not to criticize the Bank, it is just the agency I know best).  The Bank generates a considerable volume of financial statistics and publishes a lot of material on its website (although, like many websites, unless you are familiar with the site specific material can sometimes be hard to find).  The Bank gets a lot of simple requests re data, simply dealt with in a very quick email response, or answer to a phone call. Those requests aren’t included in the 51 requests the Bank reported receiving last financial year.  But a league table could easily capture all these requests, and the quick response times (which are welcome), without shedding any real light on the issues of concern around the handling of the more contentious OIA requests.

Or take the Governor’s press conferences, at the release of the MPS and FSR.  As far as I can tell, each question is technically a request for information, covered by the Official Information Act.  Each answer is given within seconds of the request being made.  Over a full year, that would be easily another 100 requests lodged and expeditiously dealt with, without shedding any light on how the Bank handles requests for material it doesn’t want to release.

I’m sure those who know other agencies or departments in detail could readily come up with similar opportunities to game the statistics and any league tables.

It is good that the Onbudsman reckons he knows who the good performers are, and who the bad performers are, and that he wants to let the public know, but I suspect he is going to have a very hard time reflecting those assessments in any sort of league table.  This is mostly about attitudes, and they are fairly easy to spot, but hard to attach a number to.

Finally, the Ombudsman was asked about agencies charging for OIA requests, and specifically about the stance of the Reserve Bank.  He avoided the specific issue of the Reserve Bank’s approach, but commented more generally

 if we were to call this a freedom of information act and not an official information act, it gives the right tone. There should be an assumption that you can get information in a freedom way – that is without cost. That’s my starting point.

I do not support charging as a general rule.

That is welcome.

It is, however, quite a change of stance over only a few months. In that Fairfax interview in January he had said

“I think the Reserve Bank’s response is actually very fair. When I looked at it I couldn’t fault it. As a statement of principle it was perfectly fair and it’s one to which I subscribe,”

And, as the Reserve Bank itself revealed, the Ombudsman’s office had advised the Bank, as recently as November, that

Ms Kember [Principal Adviser in the Ombudsman’s Policy and Professional Practice Advisory Group] said that the Ombudsmen generally consider both that it was reasonable for agencies to charge in accordance with the guidelines and that the charges imposed within those guidelines are likely also to be reasonable. She said it is surprising that more agencies don’t make greater use of charging as one of the tools available to manage their overall workload and processes for responses where this would be helpful.

November was, however, before the new Ombudsman had taken office.

The Chief Ombudsman’s heart appears to be in the right place, and the direction of his comments yesterday is very much one that I would support. The Office of the Ombudsman has some legal powers and should have some moral authority which he may be able to use to lift the compliance of government agencies with the letter and spirit of the Official Information Act.  His predecessor was reluctant to use that authority.  But much also depends on political leadership.  There were some encouraging comments in response to Boshier’s interview from the Greens, but are the leaders of the National and Labour parties likely to treat this an issue that matters?

In the end, the Ombudsman can go only so far.  As I’ve pointed out previously, the relevant provisions of the Official Information Act itself appear to allow a more active use of charging than is envisaged either in the government guidelines on charging, or in the comments yesterday from the Ombudsman.  Good practice –  few agencies actually do charge – need not be as stringent as the provisions of the Act allow, but it might be timely to review the statutory provisions to buttress a sense, now apparently shared by the Chief Ombudsman, that official information should largely be available freely, in both senses of the word.



Some idling on the money supply

I don’t find aggregate measures of the money supply particularly enlightening, and usually when I focus on the money and credit aggregates at all it is on the credit side of things.  In a floating exchange rate system, credit growth tends to result in money creation, rather than vice versa.  Whether it results just in money creation, or in some mix of money and offshore financing, depends largely what people do as a result of whatever gave rise to the credit creation.

Cross-country monetary aggregate comparisons are also fraught.  Different countries measure the money supply in different ways, and the importance of the types of institutions whose liabilities are captured in the money supply measures differ from one country to another (banks are much less important in the US than in most other advanced countries).

All that said, I put a chart of money supply growth since 2007 in my post yesterday.  I did so simply to respond to a not-overly-well-considered claim by Kirk Hope that New Zealand had not relied on monetary policy, or money supply growth in particular, to the same extent as the other large industrial countries he cited.

Then I noticed that a few people had looked at the chart and concluded that New Zealand had had wildly rapid growth in its broad money supply, one observing that

One reason house-price inflation took off: QE.NZ. We may not have had QE officially, but compared to “New Zealand has had the second fastest rate of money supply growth” of all major developed countries – around half of which was borrowed into existence to buy houses.

So I thought I should do a slightly better chart.  After all, countries with faster population growth should probably expect faster money supply growth (they need more), and it makes sense to look at these things in real terms –  after all, Japan has had deflation over that period and Turkey has had rather high inflation.

For what it is worth the OECD has broad money supply data for 19 countries (including the euro area as a whole) and I added in the German data I used in the post yesterday.  For those countries, I got population data from the IMF and inflation data from the OECD, and calculated real money supply growth per capita for those countries between 2007 (just before the recession) and 2015.

And here is the resulting chart

broad money

I’m not sure I’d want to take much from it.  On this measure, and despite having had larger cuts in interest rates than all (?) of these countries since 2007, we’ve had rather moderate real per capita money supply growth (although still ahead of the UK, Japan and the euro-area of the dreaded QE).  It has been faster than underlying productivity growth to be sure, but not dramatically so.

Bank balance sheets just haven’t been growing very rapidly (in real per capita terms) over that period.  And much of the credit (and money supply) growth, I would argue, is the endogenous response to higher house prices, rather than some independent factor pushing house prices up.  The interaction of planning restrictions and population pressure have pushed real house (+land)prices in our biggest city up sharply, and unsurprisingly people need to take out larger loans than previously to purchase houses.  When they take out such loans, the stock of credit rises, and so does the stock of deposits (the money supply).  If, in aggregate, people treat higher house prices as new wealth and consume more then over time money supply growth will tend to lag behind credit (their spending will flow into a current account deficit, funded typically by bank foreign borrowing).  If, on the other hand, people in aggregate treat higher house prices as an additional cost, undermining their sense of well-being, the effect could be the other way around.  But just because credit/money rises we shouldn’t necessarily think of banks as the driving force in the process –  more an accommodating one, mostly responding to other structural (and perhaps speculative) forces.

Reforming Reserve Bank releases

I went into town this morning to talk to the Reserve Bank’s inquiry looking into the possible leak of last week’s OCR announcement (see last paragraph here).  I still have no idea whether there really was a leak, but it seems likely, and if so it seems likely to have come from one or other of the lock-ups the Bank runs, for analysts and for the media.

But the discussion this morning got me thinking again about some of the Reserve Bank’s processes around OCR decisions and Monetary Policy Statements. Insiders will recognize some old familiar arguments.

In many ways, it is remarkable that the Reserve Bank has not had an OCR leak, deliberate or inadvertent, before now (the memory of a couple of other earlier ones –  one deliberate and wilful, one inadvertent, are still seared in my memory).  As the Governor noted in his press conference last week, the decision to cut the OCR had been made the previous Friday –  six days before the announcement.  That delay is shorter than it used to be –  at one stage, the OCR decision was being made more than two weeks prior to release – but much much longer that it needs to be, or than is the typical practice in other countries.  In other countries, official interest rate decisions are typically announced within hours of the decision being made.  Draft news releases announcing the decision (and covering the range of possible options) must be part of the package of papers before the respective decision-making committees.

Delays have not always been that long in New Zealand. Prior to the introduction of the OCR in 1999, the Governor used to finalise any announcement on monetary policy (since we weren’t setting a specific interest rate, the announcements were more about the Bank’s overall take on things) at a 7:30am meeting in his office on the morning of the release of the Monetary Policy Statement.

The long lag between the Governor taking the OCR decision and the release of that decision arises solely because the Reserve Bank has chosen to release, four times a year, Monetary Policy Statements at exactly the same time as the OCR announcement (in fact the OCR announcement on these occasions is chapter one of the Monetary Policy Statement).  Long documents take much longer to finalise than one page OCR announcements do.

But there is no need for the two documents to be so intertwined.  Other central banks typically don’t do it that way.  In fact, in law, the Reserve Bank only has to publish two MPSs a year.    And, frankly, the MPSs (which are shorter than they used to be) often don’t add very much beyond what was in press release –  or certainly not much that couldn’t wait for a few days.  I’d favour the Bank moving to a system of monthly OCR reviews (well, 11 months a year), making the announcement the day the decision is made, and moving to publish two, or at most three, Monetary Policy Statements a year, not tied to the date of any particular OCR announcement.  On the one hand, it would improve security and markedly reduce the opportunity for inadvertent leaks, and on the other it might encourage the MPSs to become vehicles for more substantial background analysis and evaluation, along the lines of what the statutory provisions seems to envisage.

The counter-argument, of course, is that monetary policy is forecast-based, and so we need to see the forecasts to make sense of the policy.  It is fine argument in principle, but bears little relationship to reality.  Mostly, central banks respond to the immediate flow of data.  Yes, those data have implications for what happens in future, but almost all the information is typically in the initial revision of view –  about where things are right now, or perhaps a few months ago.  And, of course, as anyone who has been inside these processes knows, the forecasts are often adjusted to reflected the Governor’s priors about policy and policy messaging (the stuff dealt with in a couple of paragraphs in the press release).  That isn’t a criticism –  we know so little about the future that I think it is mostly right, proper and sensible as an approach.  But a full set of forecasts, and all the commentary that goes with them just isn’t necessary for the policy messages to be got across effectively. In fact, often less text is better than more on a policy announcement day –  there is less chance of inadvertent differences of emphasis etc.

My other suggestion is to consider discontinuing lockups.    Other central banks typically (as far as I know) don’t do them: they put the policy announcement out in the public domain, including as much or as little elaboration in the statement as the occasion warrants, and leave it to analysts and markets to work it out for themselves (sometimes with the benefit of later, open, press conferences).

There is case for lock-ups for some sorts of releases.  Government budgets seem like a reasonable example, when there is a multitude of announcements, often of complex unfamiliar material.  Or the release of major in-depth reports on some specialized aspect of government (which might be hard to report well, but perhaps not very market-sensitive).  It isn’t obvious that OCR announcements fit that bill.

Of course, the Bank does not typically do lockups for the OCR announcements that don’t come as part of Monetary Policy Statements, suggesting that –  in principle at least –  the Bank agrees that OCR announcements don’t need lockups.  The lockups must be for the rest of the MPS documents.  But they are quite familiar in structure and content, and little of the content is particularly complex or unfamiliar.

The Bank’s lock-ups come with two sets of risks.  The first is the risk of leaks.  The information in OCR announcements is enormously market sensitive –  look at how much and how quickly the exchange rate moved on last week’s announcement, creating a huge incentive for someone to try to cheat.  40 years ago it might have easy to secure people in an ordinary room, with no risk of them being able to communicate with outsiders.  Central bankers weren’t at much of a disadvantage in managing those who might want to cheat.  It is hard to believe that the playing field is quite so level these days, with all the advances in technology, including very small scale technology.   At least while I was at the Bank, the analysts’ lock-up used to occur in a room in which people could be seen quite easily from neighbouring apartments (other clever ways of signaling, getting round the rules, were covered in this recent New Yorker article –  more, outside fiction, than I had ever read about bridge).  Perhaps no one ever abused the systems, but why take the chance that someone one day finds (or just exploits) a way around the Bank’s precautions?       Perhaps they did last week.

The second risk, and perhaps more often practically important, is that the lock-ups are not just occasions when people are shut in a room with a document and left to digest it.  In these lock-ups staff, often quite senior staff, are available to answer questions and offer clarifying comments.  There is often plenty of ambiguity around Reserve Bank statements –  it isn’t like the specifics of a technical Budget announcement  –  and that creates the risk that attendees of a lock-up get information on the Bank’s views and interpretations that isn’t available to everyone else, or that people get slightly different messages depending on who they happen to talk to in the lock-ups.

It is quite valid for the Reserve Bank to have messages it wants to convey with OCR releases.  Those messages should be written down –  debated and refined internally as required –  and then be available to everyone. Further comment shouldn’t really be necessary, but if it is necessary or desirable to have occasional press conferences then at least (as the Bank does) they can be audible/visible to all (via the webcast).

On another, different, Reserve Bank topic, I was talking the other day to a business person who had been visited by Reserve Bank staff on their regular business visits, gathering conjunctural information.  This person told me that he had asked the staff whether the Bank was doing any work on reforming the governance of the institution. The staff apparently responded that they were doing so.

If this report is accurate it is quite newsworthy.  Previous reports had led us to believe that the Bank had done extensive work on possible governance reforms, but had completed the project.  They would not release any of the papers relating to the work.  Information that The Treasury released a few months ago confirmed that the Bank’s work has been discontinued, and that the Minister of Finance had indicated (against Treasury’s preferences) that he did not want work in that area continued with.  Perhaps some journalist might care to ask the Bank whether this report is accurate, and whether they do have work underway on governance reforms.  If they do, and if the Minister is becoming more interested, that would be very welcome news.   But perhaps some young economist just had the wrong end of the stick, or misinterpreted the question?

A strange op-ed from a business lobby group

There is a strange op-ed in the Dominion-Post this morning from Kirk Hope, the new chief executive of BusinessNZ.  I can’t yet see it online, but the point of the piece seemed to be that there is (a) more to New Zealand than dairy, and (b) New Zealand isn’t in a recession.

If he’d stopped there, I’d have no problem with the story.  But he went on to paint a rosy picture of how New Zealand is doing, and has been handling things, relative to other countries.

There is, for example, the claim that our rate of GDP growth (2.5 per cent in 2015)

“…is better than most developed countries.  The current rate of growth in the United States is 2.4 per cent, while in Britain it is 2.2 per cent, in Germany 1.7 per cent and in Japan 1.3 per cent.”

Was he perhaps not aware that New Zealand has been experiencing considerably faster population growth than all these countries?  Using the 2015 population growth data from the IMF WEO database, here is how per capita GDP growth looks for those five countries.

real gpd pc kirk hope

Spot the disappointing performer.  It gets worse, of course, because our terms of trade have been falling.  Real per capita national income actually fell a little in New Zealand last year.

In the short-term, it isn’t a disastrous performance (and there are countries we’ve done better than), but it isn’t very good either.

Amid his rampant optimism, Hope also injects this argument:

“Just as importantly, we are fortunate to have escaped one of the key mistakes made in other parts of the world in the aftermath of the global financial crisis.  While other countries chose to expand their money supply with quantitative easing to shore up their economies, New Zealand instead opted for investing in infrastructure –  roads and broadband –  which is a far more growth-enhancing approach”.

Of course New Zealand didn’t do any quantitative easing. Other countries did so only when policy interest rates got to around zero and they concluded that they couldn’t do anything much more with conventional monetary policy.

But which of Hope’s countries has cut interest rates further since 2007/08?

policy int rates

Why, New Zealand.

And what of the money supply itself?  Well, of the five countries, New Zealand has had the second fastest rate of money supply growth.

money supply

The euro-area as a whole has had money supply growth even weaker than the UK’s –  a mark of the problems the euro region has had.

As for “investing”, I suspect that few of Hope’s own member businesses will have been undertaking projects on quite such shaky or non-existent cost-benefit analyses as those which underpinned much of the public investment that occurs in New Zealand.  I’m still flabbergasted at the memory of asking a senior minister at a seminar a few years ago why there had been no cost-benefit analysis for one major initiative and being told, with a smile, that it was because he already knew the answer.

Thinking Big…..

…and drifting ever further behind (the rest of the advanced world).

That was the title of my address this morning to annual New Zealand Initiative Members’ Retreat in Auckland.  It is a gathering  of several dozen chief executives and senior executives of the Initiative’s corporate (and government) members.

Here is the text.

Drifting slowly ever further behind NZI retreat presentation 17 March 2016 

I was sharing a session on the economy with James Shaw, the leader of the Green Party.  I’m not sure how we got grouped together –  perhaps speakers the organisers thought the attendees would be rather suspicious of?

I talked only briefly about the current state of the New Zealand and global economies, concluding that there wasn’t much positive to look forward to over the next few years from either source, but that at least New Zealand didn’t seem to face much risk of a domestic financial crisis.

notwithstanding the obscene level of Auckland house prices, and the overhang of dairy debt, New Zealand as a whole has not been on some credit-fuelled rampant boom.  If we take the country as a whole, our dependence on foreign capital (the NIIP position as a share of GDP) has largely gone sideways for the last 25 years. Perhaps ideally it would have shrunk a bit, but this is no Greece, Spain, Ireland, or Iceland.  Or even the US –  with all that government sponsored or promoted poor quality housing lending.  Risks of a domestic financial crisis should rate very low on your list of concerns.

I got the impression that some people thought that was about the only upbeat comment in the speech.

The rest of the address was about the longer-term economic challenges facing New Zealand.  I pointed to some of the stylized facts:

  • persistently high (relative to other countries) real interest and (relative to our relative productivity trends) real exchange rate,
  • the continuing decline in our relative productivity (labour or MFP),
  • the failure to see any expansion in tradables production per capita over 15 years, and
  • the failure of Auckland incomes to rise relative to those in rest of the country, despite all the emphasis on possible agglomeration benefits and a policy focus on promoting Auckland.

I noted that New Zealand had been, and remains, a natural-resource based economy.

Modern New Zealand has always been, and remains, a natural resource-based economy, and no one is making any more land, sea or other natural resources. We find new and smarter ways to maximise what we earn from the natural resources – productivity in agriculture in recent decades, for example, has been quite impressive  –  but that doesn’t change the fact that we have a given stock of natural resources and a fairly rapidly growing number of people.    For each new person we add there are simply fewer natural resources per capita.    In a well-ordered society, abundant natural resources are a blessing not a curse, and there are plenty of opportunities for productivity gains in many of those industries.   But the stock of resources isn’t increasing, and the people are.

That wouldn’t matter if we were rapidly growing industries that were taking on the world based largely on the skills and talents of our people. After all, there are no known bounds to human creativity and ingenuity.    You could think of the US or the UK, or Belgium or Ireland.  But we aren’t.

What New Zealand exports has changed over 170 years – at one stage, gold was our largest export, perhaps whale products at one stage even earlier.  Optimists like to point out the agricultural exports have diminished in relative significance.  But if we look at all our exports, our natural resource based exports –  agriculture, oil, fish, gold, (most) tourism, forestry, aluminium –  make up probably 80 per cent of our total exports (good and services).  That proportion isn’t shrinking materially.  There are some globally successful companies based here, who don’t primarily draw on the natural resource base – Fisher and Paykel Healthcare might be the best known – but there aren’t many, and there is simply no sign of the export base transforming.  Exports of educational services have been in the headlines this year: they are a welcome boost, but we aren’t exactly selling premium Ivy League type products.

Against this background, I drew attention to the failure of our skills-based immigration programme

Unfortunately, there is not the slightest evidence that the New Zealand strategy has worked.  The formal evidence base around the economic impact of immigration to New Zealand is unfortunately still quite limited, and we never quite know what would have happened without the immigration.  But it was never a strategy that was likely to succeed.  For one thing, New Zealand is small, remote and (by advanced country standards) relatively poor – not exactly first choice for the hard-driving and ambitious best and brightest.  Our universities are middling at best, so we can’t attract many potential stars that way.  As Hayden Glass and Julie Fry  reportedly point out in their new book, our skills-based programme has been attracting less skilled people, on average, than the Australian or Canadian programmes.


There is simply no sign of a fast-growing knowledge-based outward-oriented tradables sector, that would lead faster national growth in productivity and incomes, emerging here. [Auckland].

And nor would I expect it to: this is a natural resource based economy, and simply not a place where those knowledge-based industries would naturally locate in any number.  Even if they started here, in many or most cases the owners could maximise value by relocating (or selling) abroad.

New Zealand might have plenty of smart people and low regulatory barriers to starting businesses but it seems to be a pretty poor place to base global business.  That seems to be our experience.  But look around the world, and you simply don’t find many such businesses on remote islands.


In their individual wisdom, knowing their own country, New Zealanders has been recognising that prospects for them and their families are better abroad than here.  Even last year, more left than came back.   And yet our governments –  backed more or less by all political parties –  have simply decided to bring in huge numbers of new people each year.  It is an astonishing example of a central planner’s hubris –  a whole new Think Big strategy in which governments, all with the best will in the world, mess up the stabilising adjustments that would otherwise have been underway.

Governments don’t help by messing up the housing market but, salient as that pressure is, especially here in Auckland, it isn’t the real issue. The real issue is simply that there are no new really good income earning prospects –  new highly rewarding export industries – that the much higher population is enabling us to tap.  We haven’t found new natural resources or ideas that need lots more people to take full advantage of them.  Of course, we sustain reasonable total GDP growth building to support a rising population, but it does nothing to close our productivity deficits.  And because people can’t be used for two things at once, the need to build to accommodate the ever-rising population crowds out some productive, internationally oriented, investment that would otherwise be profitable here.  If we keep on with such a strategy we’ll keep on, little by little, drifting further behind the rest of the advanced world. We are simply in the wrong place to support very many people.  No other remote island has anything like our population.  Our own people have implicitly recognised the limits of New Zealand for decades. It is governments and their official advisers who seem blind to it.

Concluding that we need to change course

Closing those gasps will take far more rigorous and robust analysis and advice from our key economic agencies, such as Treasury and MBIE, that looks hard at all the symptoms of our longer-term economic condition.  But it will also take political will, drive and vision –  and a willingness to put aside the implicit “big New Zealand” mentality that has shaped so much of our history –  from Vogel to Seddon to Holland to Holyoake to Douglas, Birch, Clark and Key. 

New Zealand isn’t in short-term crisis, and for that we can be grateful.  But our people –  our kids and grandchildren –  deserve more than leaders simply smoothing the pillow of continued relative decline, all the while pursuing a flawed “Thinking Big” more-people strategy that failed in the post-war decades, and has failed again in the last 25 years.

Depressing?  Well, several people thought so, one pointing out how fitting it was that I’d named the blog for Cassandra.  Personally, I’m a lot more optimistic than that.  I reckon there is no reason at all why a bunch of smart people can’t generate really high per capita incomes in these pleasant islands, combining our skills, institutions, and natural resources.  Various other small countries do so –  mostly from oil, but there is nothing unique about that particular resource.  We have been deluding ourselves –  or rather our politicians and officials have –  in the belief that a bigger population and bigger cities are the path to success.  There is simply no evidence they have been so far – not just in the last few years but in the many decades since the last really positive New Zealand-specific productivity shock.  But that is really quite easy to fix.  We can’t change where we are in the world, which is a big drawback in many ways – some activities are just never likely to be generated to any large extent in places like New Zealand –  but that shouldn’t hold back our living standards so long as we avoid the central planners’ ambitions to rush to populate.

But if you still reckon my presentation is bleak, James Shaw trumped it with a fairly shockingly dark joke.  (It was a Chatham House rules occasion, but he said I could say that) talking about robots and the risks they might pose he recounted a joke he’d come across on Twitter.

9 year old girl:  Daddy, will robots one day rule the world?

Father:  Yes, dear.  Probably.

9 year old girl:  Daddy, will that be before I die?

Father:  Probably dear.  Just shortly before.

Finally, I learned today that the New Zealand Initiative is planning to do some substantive work on the economics of immigration in New Zealand.  It might still be some way off, but I welcome the prospect of the work being done, and look forward to what they come up with.  Eric Crampton apparently is keen on inflows that would enhance the availability of Latin American cuisine.


Setting interest rates: no need to change the system

Andrew Little has moved on from wanting to “stiff-arm” banks over dairy foreclosures, to talking of the possibility of legislating to force banks (and other lenders?) to pass on in full any OCR changes.

It isn’t the oddest idea in the world – and personally I find the new talk of a Universal Basic Income, much as it has also been propounded by some  on the right, including Milton Friedman, rather more consequential, and worrying.  Many quite sensible countries set fixed exchange rates.

For 15 years in New Zealand –  1984 to 1999 –  we didn’t have a government agency setting interest rates at all.  For much of that time, many of us at the Reserve Bank thought that was only right and proper.  And when we first proposed an OCR-like system, many of the leading economics commentators and bank economists were pretty dismissive.  But in 1999 we simply concluded that –  like most of the rest of the advanced world –  it made more sense to set, or manage directly, an official interest rate.  And now that model is just taken for granted.

Of course, setting the OCR isn’t the same as setting the individual interest rates for each borrower, but I’m sure that if he gave it any thought that isn’t what Little means either.  Perhaps he just means that the Reserve Bank should be able to direct set some commercial bank base lending rate against which all other lending rates have to be calculated? It seems administratively cumbersome, and perhaps prone to being circumvented –  not unlike much other government regulation, including (for example) direct restrictions on mortgage lending of the sort once unknown in New Zealand but now imposed by the Reserve Bank and accommodated by the current government.  And it is not as if governments universally eschew price-setting in other markets either –  the government recently proudly announced an increase in the regulated minimum price for labour, talking of wanting to push that price (once just a market price) up as fast as possible.

One of the attractions of an OCR-type arrangement is that it is a fairly indirect instrument.  The Reserve Bank can put the OCR pretty much wherever it needs to to deliver on an inflation target.  That is an imprecise linkage, but it works pretty well (at least if the Reserve Bank is reading underlying inflation pressures correctly) and it does so without needing lots of direct controls or impinging very directly on anyone’s business or financial affairs.  The OCR is simply the rate the Reserve Bank pays on deposits banks (and any other settlement account holders) have at the Reserve Bank, and the rate at which the Reserve Bank will lend to banks on demand (against good quality collateral) is pegged to the OCR.   The amounts banks borrow from and deposit with the Reserve Bank aren’t that large : bank balance sheets total almost $500 billion, and bank deposits with the Reserve Bank are fairly stable, currently around $9 billion.  And yet changes in the rate paid on these balances, which don’t move around much, provide substantial and sufficient leverage (partly signaling, partly a change in pricing on one component of the balance sheet) for macroeconomic stabilization purposes.    It isn’t a mechanical connection, but it works.

A variety of other models might too, but the judgement has been –  not just here, but in other similar countries – that an indirect approach like the OCR is less intrusive and has fewer efficiency costs than the alternatives.

And it is not as if there is some obvious problem.  Here is a chart, drawn from data on the Reserve Bank website, showing floating residential mortgage interest rates and six month term deposit rates since 1965.  (It is an ugly chart because the mortgage rate data are monthly throughout, but the term deposit rates are quarterly until 1987).

retail interest rates

Largely, lending rates reflect deposit rates (and to some extent vice versa).   These aren’t perfectly representative indicators, just what we have.  But for the almost 30 years for which we have the full monthly data are available, the average spread between these two series was 2.45 percentage points, with a standard deviation of 0.6 percentage points.  The latest data are for February, and the spread was 2.49 percentage points.  One would expect spreads to move around a bit –  demand for individual products ebbs and flows, and the links between foreign funding markets and domestic term deposit markets aren’t instant or mechanical –  and they do, but there is no obvious or disconcerting trend.

Through the period since 1965 we have had all manner of regimes.  Direct controls on lending rates, direct controls on deposit rates, indirect controls on one, other or both, no controls at all, and then for the last 17 years direct control of the interest rates on one small component of bank balance sheets.  Go back far enough, and during the 1930s a conservative government legislated to lower all lending rates.  But it just isn’t obvious that there is any need to change the operating system now.

To a mere economist, it is a bit of a puzzle what Little is up to.  No doubt the Opposition needs to be seen to be offering alternative policies, but these issues (bank lending rates and dairy foreclosures) don’t seem like an area where there is a substantive policy issue (while there are many other areas of policy where the same could not be said, such as New Zealand’s continuing slow relative decline).  But there does seem to be quite a strain of anti-bank sentiment in New Zealand –  perhaps especially anti foreign banks, the same sentiment that gave us state-owned Kiwibank under the previous Labour-Alliance government.  Perhaps people on the left here are looking to the US and the striking degree of response Bernie Sanders is achieving for his populist message, much of which is centred on an anti Wall St message?


Inflation expectations according to the RB

The Reserve Bank yesterday released some material explaining how it sees the role of inflation expectations, and measures of inflation expectations, in monetary policy.  There was a background Analytical Note on some of the technical modelling (putting a smooth curve through the selected expectations series), and I won’t say any more about it.  But then there was an issue of the Bulletin, headed “Inflation expectations and the conduct of monetary policy in New Zealand” and an accompanying substantive press release.

Recall that articles in the Bulletin carry the imprimatur of the Governor – they speak for the Bank, and aren’t just the views of the authors.  But this short one must do even more than most given that (a) it is directly about the conduct of monetary policy, the Bank’s primary function, and (b) that John McDermott, head of the Economics Department, is himself one of the co-authors.

Frankly, I found the article a little disconcerting.  I don’t often agree with the BNZ economics team these days but they came away from the article commenting “It all feels very mechanistic” and that captured part of my reaction as well.  I’m pretty sure that the Governor isn’t as mechanical in his approach as the article might imply, but it was a little disconcerting nonetheless.

There is also a slightly eerie detachment from the real world about the article.

The authors don’t take the opportunity to illustrate whether inflation expectations matter at all, or (more specifically) whether the measures of inflation expectations they use actually affect economic behaviour of firms or households.  There are many confident statements throughout the article about how inflation expectations “will” or “do” affect various things, and they are all true within a particular model, but the authors don’t show that they reflect real-life economic behavior.    For example, the notion that expectations of future inflation might affect wage-setting sounds plausible, but it is no more plausible than the notion that employers and employees mostly have in mind the most recent trend in past inflation.  If you pushed them on it, they might well respond “well, specialist economic forecasters can’t forecast inflation remotely well, so a rule of thumb based on past trends seems better for everyone in normal circumstances”.   The same logic could easily be applied to implicit calculations of real interest rates.  Perhaps further empirical work from the Bank will shed light on all this?

I made the point last week that in relatively stable economic times, survey measures of inflation expectations may be little more than a lagged report of something people already have to hand –  data on recent trends in inflation itself.  If so, all this work on measures of inflation expectations may be largely devoid of substance –  and, if anything, simply lead the Bank to reacting more slowly to deviations of inflation from the target than it should do.

Strangely, in the entire article there was also no discussion of the length of nominal contracts.  As I’ve pointed out previously, expectations of inflation 20 years hence are very unlikely to affect much economic behavior today, and are certainly unlikely to influence inflation outcomes today.  There are simply very few nominal contracts fixed for that length of time, or indeed for anything much beyond one to two years.  So if the Bank believes that some concept of inflation expectations is affecting demand and pricing now, surely it has to be expectations about the horizons over which people are entering nominal contracts?  Most wages and prices are reviewed at least annually, and not many interest rates are fixed for much longer than two years.  These details matter.

And yet in the Bank’s material they are glided over.  Here is some text from early in the article

 One important aspect is the influence that inflation expectations will have on wage- and price-setting behaviour at horizons relevant for forecasting inflation and setting monetary policy.

A further important aspect is if inflation expectations are well anchored. In the New Zealand context, ‘well anchored’ implies long-term inflation expectations that are a) relatively stable, and b) close to the mid-point  of the current policy target range. Well-anchored inflation expectations are an important component of inflation targeting. However, determining whether inflation expectations are well-anchored is not a clear-cut decision. In practice, inflation expectations are unlikely to be continually anchored to a fixed point.  Instead, the Bank must judge whether the level and any volatility of inflation expectations are influencing wage- and price-setting behaviour in a way that is consistent with medium-term price stability.

The first paragraph on its own is fine –  although note the “will”, where “might” or “can” might better capture the uncertainty.  It is focused, it appears, on the one to two ahead horizon, which both captures the sorts of horizons over which nominal contracts are made, and the horizon over which monetary policy influences things.

But then things start getting muddled.  They introduce this concept of inflation expectations being “well anchored” –  which got a lot of attention in the MPS last week – but here they aren’t talking about expectations over the horizons of price-setters, and monetary policymakers, but out into the far future –  “long-term expectations”.   Not content with drawing the distinction, they then seek to loop back later in the paragraph to the potential disruption to current wage and price-setting behavior.  But surely if there were problems affect the current situation they would show up in the measures of expectations over a one to two year horizon?

But how much content is there to this focus on long-term expectations, as anything of relevance to current monetary policy?  My answer: not a lot.    The Reserve Bank focuses on survey-based measures.  There are quite a few longer-term survey questions, but (a) the Bank simply ignores surveys of households in its modelling, (b) there are no longer-term surveys of businesses, which (c) means that the survey measures of inflation expectations they use are all those of the same small group of economists.

As I’ve noted previously, if forced to write down my expectation for inflation in 10 years time I might well write down 2 per cent.  Why?  Well, it would have nothing whatever to do with my confidence, or otherwise, in Graeme Wheeler or John McDermott. They are unlikely to be in the same job 10 years hence, and we will have had several PTA renewals and elections before then.  I’d write down 2 per cent –  with quite wide confidence bands, and relief that nothing depended on the answer –  just because the wider world has not yet confidently settled on a target any different than 2 per cent.  If instead I wrote down 3 per cent it still wouldn’t reflect badly on Wheeler and McDermott who have to operate with the current PTA –  it might simply be a prediction that eventually central banks and governments might decide that higher targets are safer, in the presence of the near-zero lower bound.  The Bank uses these long-term measures,(and the average of them, the “perceived target focus”) as follows:

 If this measure is close to the official inflation target mid-point, this suggests the public see the Bank’s projections as credible

But this seems hard to take seriously.  The Bank’s projections cover the next couple of years. The long-term measures are about periods five or ten years hence. And they don’t even get information from “the public” –  just from a handful of economists.  The current PTA won’t be in place five to ten years hence –  indeed, most of the Opposition political parties want to have changed the framework by then –  and most probably neither will the current monetary policy decision makers.

I like lots of data, and the more surveys the better tended to be my mantra.  But there is, essentially, nothing in the long-term survey-based measures that is of any relevance to day-to-day monetary policy setting or to assessments of how well, or otherwise, the Bank is doing its job.   Expectations that far ahead, even if they were real expectations of firms and households transacting, simply don’t affect inflation today, and nor –  except perhaps in extremis –  do they provide any useful information about whether current monetary policymakers are doing their job.  The Bank really shouldn’t be taking any comfort from those surveys –  perhaps especially given that the same economists have over-predicted inflation in recent years even more than the Reserve Bank itself did.

Market-based measures are a little different.  We have limited information of this sort in New Zealand, but the gap between indexed and conventional government bonds is an implicit (if imprecise) measure of expectations.  These implicit expectations are an average expectation for the next 10 years –  different, say, than expectations for inflation 10 years hence.  At present, the implicit expectation is about 1 per cent.  Such long-term implicit expectations don’t much affect day-to-day price or wage-setting now, but at least they involve people putting their own money at stake.   They tell us something about which longer-term risks markets are currently more worried about  –  and not just in New Zealand but in various other countries, at present that is about the risk of longer-term inflation persistently undershooting targets.

The Reserve Bank really should be much more concerned about the outlook over the next one to two years, the period its decisions today are affecting.  And here the article becomes much more sobering

There is also evidence that inflation expectations have become more adaptive recently. The public is placing greater weight on past inflation outcomes rather than the inflation target when forming expectations about inflation. A shift towards more adaptive inflation expectations can help explain some of the unusual weakness in non-tradable inflation seen in recent years. This means the cost of re-anchoring inflation expectations could be higher than in the past.


There has been a material decline in inflation expectations recently, and the time that inflation expectations take to reach the target mid-point has increased significantly. This is likely having a dampening impact on prices, and risks becoming embedded in future wage and price decisions.

Remember that these are the shorter-term expectations, over the one to two year horizon, they are now talking about.

We shouldn’t be surprised that expectations measures have become more adaptive (backward looking) recently.  Inflation has been persistently below target for several years now.  The Reserve Bank, and private forecasters, have persistently told us that inflation would soon be back to target, but it just hasn’t happened.  The Reserve Bank seems to slowly be waking up to the fact that these persistent forecast errors might matter.

But it is striking how the explain it

The time to target has increased recently (figure 4). Low actual inflation outturns have likely driven this decline. Low inflation outturns reflect a number of factors, including global spare capacity, an elevated exchange rate, a sharp drop in oil prices, and a significant fall in dairy prices

Notice the striking omission from the list.  There is no sense in that list that monetary policy errors, even if only with the benefit of hindsight, might have played any part in the repeated undershoot of the target, and the way it now appears to be affecting inflation expectations measures.  Inflation outcomes, over time, in countries where the central bank has full policy flexibility, are the result of monetary policy choices.  It is really as simple as that.  Sometimes central banks face pressures that are hard to recognize and take account of soon enough, but their claim to autonomy is that they are the technical experts. Over the last few years our technical experts have let us down.

As the BNZ points out in its commentary, headline inflation is likely to stay low over at least the next few quarters,  It seems highly likely that survey measures of short-term (1 to 2 year ahead) inflation expectations will fall further, even if there is no further decline in core inflation (however defined).   BNZ worries that that will lead to the Bank over-easing, driven (in effect) by the impact of oil prices on headline inflation.  My worry is different.  The Bank has been continually behind the game, probably for at least the last 2.5 years.  To deliver future inflation near 2 per cent in a reasonably timely manner, the OCR should still be materially lower than it is now.  If drops in inflation expectations surveys are finally what get them over the line, then I’m thankful for small mercies –  that they eventually get there –  but by hanging so much on survey-based inflation expectations measures, especially longer-term ones, without any evidence that these measures are playing an independent role in the inflation process, they simply postpone to the last possible date responding to the evidence of low core inflation that they already have.

Here  is the chart of the Bank’s six core inflation measures from the MPS last week

core inflation chart

And here is the median of those six series the Bank has identified.

core infation median

Add in the market-based measure of inflation expectations, also currently around 1 per cent (and not having risen since the Bank began cutting the OCR), and it is a pretty clear basis for material further reductions in the OCR.

If the Bank is really worried as they seem in the article about this whole de-anchoring risk, perhaps they should treat it as the basis for a more pro-active use of policy now, to minimize the risk of further inflation undershoots and having to face a higher cost of re-anchoring expectations than in the past.

The Bank rightly points out that

Finally, real, rather than nominal, interest rates are what influence economic behaviour. A shift in inflation expectations can change real interest rates and this can influence the overall stance of monetary policy. All else equal, if inflation expectations shift down, real interest rates are likely to be higher and the Bank would need to take account of the subsequently tighter stance of monetary policy.

And yet it seems oblivious to the facts that:

  • the real OCR has risen over the last couple of years, as inflation expectations –  or the trend in core inflation –  have fallen
  • the latest reduction in the Bank’s inflation forecasts is enough that the latest OCR cut is no cut in real interest rates at all.

And, of course, the Governor apparently expected the full OCR cut to be passed into lower retail rates. Unsurprisingly that hasn’t happened, so that real retail rates –  the rates firms and households face – are providing even less relief, and less support for a pick-up in inflation.

Reflecting on the MPS and the Reserve Bank

There were some aspects of Graeme Wheeler’s comments following the release of the Monetary Policy Statement the other day that I welcomed.

He firmly pointed out that no advanced country central bank –  or, more importantly, government –  had abandoned inflation targeting since the global recession of 2008/09, and that none had lowered (or raised in fact) their inflation targets.  It is always worth keeping an open mind on possible improvements to the regime –  inflation targeting centred on 2 per cent won’t be the end of history –  but for now the Reserve Bank’s job, given to it by the government, is to get and keep inflation outcomes, over the medium-term, around the 2 per cent midpoint of the target range.

And when asked about the impact of a lower OCR on house prices, he succinctly observed “well, that’s just something we’ll have to watch”.  By conscious choice, house prices are not part of the inflation target, either in New Zealand or in most (if not all) inflation targeting countries.  It is one, important, relative price, influenced heavily by a range of other policy considerations.  And if bank supervisors should pay a lot of attention to house prices, and associated credit risks, it is a different matter for monetary policymakers.

And, of course, there was the OCR cut itself. It was the right thing to do, and on this occasion he didn’t allow himself to be locked in by his own previous rhetoric.   Probably one reason why I was less surprised by the move last Thursday than some of my fellow doves is that I’ve seen –  and been part of –  too many episodes in the past when the Reserve Bank has flip-flopped, and when speeches and statements had either backfired or been ill-considered in the first place.

The Reserve Bank now seems to be trying to make out that no one should have been surprised, and that there was nothing wrong with the Governor’s February speech (made only five weeks before the MPS).   Shamubeel Eaqub tells us that

An official told me it was this document that signalled the requirements for a cut in the March meeting

and in a soft-soap interview with the Herald this morning the Governor, clearly on a campaign to improve his image,

“professes surprise at the surprise about the cut”

At one level, this is clearly nonsense.  His markets and economics people will have pointed out to him that few people expected a cut last Thursday, whether or not they thought one was warranted.  He knew he was going to deliver a surprise.

At another, and more important, level it is also nonsense.  Of course, the February speech had the usual lines about risks and the way in which if the outlook changed so would the policy rate path.  Central bank speeches always do.

But (a) the Governor knows very well that his speech (not that of an underling, but of the decision maker himself) was interpreted hawkishly, and (b) that readers who interpreted it that way were quite reasonable to have done so.  After all, if he had thought everyone misinterpreted it on 3 February, it would have been very easy for the Bank to have corrected the perception –  journalists are always keen to talk to the Governor, although only the Herald ever seems so favoured.

Here was what I said about the speech at the time

In many respects it was an elaboration on last week’s brief OCR review statement –  “we might have to cut the OCR, and risks are tilted to the downside, but we don’t really want to”.

…Once again, the Governor simply does not seriously engage with the arguments made by those who suggest that a lower OCR would have been, and would be, preferable.  Instead, he basically makes up an inflation story that simply isn’t supported by the numbers, and attacks straw men.  The defensiveness is disheartening.

There were his assertions that core inflation was just fine, that inflation expectations were just fine (even though he knew key data were coming out shortly which were likely to move lower), that the OCR increases of 2014 had been fully reversed (without so much as a hint of a mention of real interest rates), that the economy was doing well, and house price inflation was concerning, all the time attacking those nameless critics with their “mechanistic approach” suggesting that lower headline inflation warranted a lower OCR.  It just wasn’t a speech that a capable Governor would have given had he thought there was a reasonable chance that he might be cutting the OCR only five weeks later.    Like others, I’ve gone back and read the speech since Thursday, and I stand by that conclusion.   The underlying economic and inflation position just did not change that much in the intervening few weeks.

I didn’t lose money on the episode, or have clients who did, so this isn’t just an articulation of the pain of getting it wrong and hearing from upset clients.  It was simply a(nother) poor performance from the Bank.

I’ve had people ask whether I think it is a case of the Governor not really being up to the job, or of him simply being poorly-advised.   Russian peasants, languishing in their oppression, are said to have reassured themselves “but if only the Tsar knew, if our plight were not kept from him by the venal or incompetent advisers”.

It is easy to adopt the “poorly advised” line, but I don’t think it really washes.  Apart from anything else, the Governor has been in place now for 3.5 years and his senior advisers are appointed, appraised, and rewarded by him.   Part of the chief executive’s role is to have robust advisory processes in place, including people who are willing to stand up and point out the risks in what he is saying or doing.    But, in any case, in my experience at the Bank the Governor treated speeches as very much his own product-  drafted by him, and not really receptive to any suggestions or comments that challenged his own priors.  The February speech felt at the time like the work of an embattled defensive individual, over-reacting under pressure.  Subsequent events tend to confirm it.  The MPS has a very very different tone to it than the speech.  And as I noted the other day there is no sign in it of the staff sharing the Governor’s predilection for the sectoral core factor model as a best single measure of inflation –  indeed, the text and chosen chart almost looked as if they had been placed to undermine any such suggestion.

At one level, perhaps it doesn’t matter very much.  In the end, the speech wasn’t an OCR review, and when it came to reviewing the OCR he did the right thing.  While I don’t think it is desirable to set out to surprise markets, neither do I think that such surprises in and of themselves are the worst thing in the world.

But it is symptomatic of a weak institution.  In one sense, the weakness isn’t new or specific to Graeme Wheeler.  I’d argue that for 20 years the Reserve Bank has been prone to lurches, and has lacked the solidity and consistency of some of better central banks around –  including notably the Reserve Bank of Australia.  Some of the worst examples –  eg (for those with long memories) the MCI  – occurred on the watch of my friend Don Brash.  But things have got materially worse again in the last few years.

In his interview this morning, Liam Dann includes this curious impression

You get a sense Wheeler enjoys lively debate and would love to engage more in the local discussion.

It isn’t an impression anyone else I’m aware of has of him.  While I was still at the Bank he very resistant to any internal debate or to dissenting views –  and from what I hear on the grapevine that hasn’t changed in the last year.  His speeches give no sign of an enthusiasm to engage with alternative perspectives, or even to recognize that such perspectives might have any merit (nameless critics dismissed as “mechanistic”).  And as others have pointed out –  a couple of soft-soap Herald interviews apart –  he does no serious local interviews, and thus eschews the ample opportunity he has to be part of the local discussion.    Curiously, despite being the head of a New Zealand government agency, paid in effect by the people of New Zealand, Wheeler comments to Dann that when he answers media questions his main interest is “economists and investors in the United States or Europe”.  He spent much of his working life in the US and Europe, behind the scenes, and there is nothing to suggest he is remotely comfortable in the glare of public scrutiny back home.

Add in a continued reluctance to ever acknowledge having made mistakes (in an area where mistakes are inevitable, at least for humans), the making up  on the fly of ill-supported stories (eg “it was all about petrol prices” only six weeks ago, a line that has now disappeared again),  a continued failure to get or keep inflation near target, and communications failures like the February speech, and it all adds up to much less than we deserve from such a powerful agency and its chief executive.  He doesn’t seem to have either the really superior personal insights on the economy, or the self-confidence (and recognition of his own limitations) to foster the dialogue and debate internally, that would help deliver consistently good policy, and supporting analysis.

It is good that he cut the OCR on Thursday. It was overdue.  But it is not as if the problems have gone away.  He still seems oblivious to the increases in real interest rates he has overseen, he is still defending the February speech (in the press conference he again asserted that he had to deal with –  nameless –  critics  misinterpreting the PTA), in his press statement (the bit of the MPS he focuses on most) he still asserts the centrality of the sectoral factor model measure when the rest of the document largely ignores it.  And he still forecasts that inflation will get back to target, but offers little substantial analysis to support his claim.  I do believe that he cares about persistently low inflation, but in his role performance is really what matters.  We still aren’t seeing it, and there is nothing in the content or processes to suggest we will avoid a repeat of the last 12 months, heel-dragging and ill-considered communications, in the period ahead.  That has to be a concern.  Under the governance model, the Board’s Annual Report this year should be interesting,  It probably won’t be.

Rod Oram wrote yesterday that

Our Reserve Bank was once a global leader.  It must be again.

When he arrived at the Bank, Graeme Wheeler had the mantra of making the Reserve Bank the best small central bank in the world.  I was never sure that was realistic-  after all, a lot of countries choose to devote a lot more resources to their central bank than we do (even the Governor the other day somewhat surprisingly acknowledged to FEC that it would help if he had more resources).  So, I also don’t think we can expect our central bank to be a “global leader”.

But it really should be doing quite a lot better than it is.

Finally, just a note on one other observation from the Dann interview.  In an unusual disclosure, the Governor tells us that all the 13 people who provided him with written advice on the OCR decision favoured a cut last week, leaving Dann with the impression that “it wasn’t even a line-ball call”.

It is, probably, good to know that officials were unanimous in their advice.  But

  • if those 13 people had seen the draft of the January speech were they all unanimous in being comfortable with that?
  • it is worth bearing in mind that, in my long experience on the Monetary Policy Committee(or its predecessor the OCR Advisory Group), overwhelming majority “votes” are much more common than material divisions of opinion.  It is a climate that does not encourage debate, and certainly does not encourage significant differences of opinion at the recommendation stage.   Indeed, I recall the meeting at which Deputy Governor Geoff Bascand, admittedly then new to the Bank, laid into me for an OCR recommendation which he most certainly disagreed with.  It takes a certain strong-mindedness (or sheer stupidity) to go on dissenting.

It was an unusual disclosure because the Bank has always fought hard to keep secret the advice provided to the Governor on the OCR.  But if the Governor has chosen to disclose the “vote” on this occasion, only a few days after the announcement, it is difficult to see how any of the usual OIA excuses (“free and frank expression of opinion”, “substantial economic damage to the interests of New Zealand”, or “avoiding premature disclosure”)can now be applied in future, especially in respect of decisions from some quarters past.  I have just lodged an OIA request for the voting record (aggregate only, no names, thus mirroring Wheeler’s disclosure) for all OCR decisions since mid-2013 (ie just prior to the ill-fated tightening cycle getting underway).