Writing about monetary policy the other day, I observed that
we all know that ex post accountability for monetary policy judgements means little in practice (perhaps inevitably so)
Our (unusual) system for the governance of monetary policy was built around the presumption that such accountability could be made effective, but it has long been clear that wasn’t correct. The Acting Chief Economist of Westpac, Michael Gordon, is quoted in the Herald saying:
“There needs be tighter enforcement of it [inflation targeting]. The problem at the moment is the only option the Finance Minister or the Reserve Bank board has is the nuclear option of sacking the governor, and of course they don’t want to do that, so it’s just left to drift.”
I think that is only partly right (and actually the Board can’t dismiss the Governor, only the Minister can). The issue isn’t so much the lack of powers as the lack of will (in turn perhaps reflecting lack of incentives). The Board and the Minister could give the Governor a very hard time – well short of sacking him (something I doubt anyone wants) – but don’t.
The Reserve Bank’s Board met yesterday and, if past practice is anything to go by, it will have been the meeting at which they finalized their Annual Report – their job being, primarily, to monitor and hold to account the Governor. It has been a pretty bad year for the Bank and the Governor. Inflation continued to undershoot the target, communications has been patchy at best, and the analysis in support of the Governor’s housing finance market controls remains at least as poor as ever. And then there was the OCR leak. These things happen – sometimes it takes a breach to highlight system vulnerabilities – but the refusal to take any responsibility, and then to resort to smearing the person who brought the leak to their attention, showed something of the character of the Governor, his Deputy, and the Board members who – passively or (in the case of the chair) actively – backed his approach. In a post last month, I suggested what a good Board Annual Report might actually look like – one that took seriously the problems, as well as seeking to build on the strengths of the institution. We’ll see when the report is finally published, but I’m not optimistic that there will be any evidence of serious scrutiny or accountability.
The Minister’s approach to all this was nicely reflected in another useful Bernard Hickey story
English was asked if the Governor had failed to meet his PTA target with English.
“I think that’s an unfair assessment in the circumstances,” English told reporters in Parliament.
So inflation, on the Bank’s own forecasts, will be away from target for seven years and that’s okay according to the Minister of Finance. Of course, the first year or two of that wasn’t the current Governor’s responsibility, but it seems unlikely that in the five years of inflation outcomes he is responsible for, inflation will get to 2 per cent at all. And yet Mr English and Mr Wheeler explicitly inserted that 2 per cent focal point into the PTA.
I’m not sure that “failed” is open to an easy yes or no answer. But it wouldn’t have been hard for the Minister to have noted that “look. pretty obviously there have been some mistakes and misjudgments, at least with the benefit of hindsight, and that’s unfortunate. But humans make mistakes – even politicians do – and, as I think the Governor has pointed out, often private economists had even higher inflation forecasts than the Bank did”.
But, no. Instead, the Governor is absolved of all blame/responsibility.
“If world inflation was 2-3% and we were wandering along at 1% and had high unemployment then I think you could say that,” he said.
As the Treasury has pointed out – to him and to us – the unemployment rate is still well above the NAIRU, and has been for the whole of the Governor’s term (in fact, almost the whole of the government’s term). Oh, and there is that pesky new under-utilisation series as well – almost 13 per cent.
And then there was the first half of that sentence. It sounded a lot like the sort of nonsense criticism we used to get back in the late 1980s when the price stability target was being set: Winston Peters, for example, used to argue that we couldn’t possibly get inflation lower than that of our trading partners. Perhaps it was true in the days of fixed exchange rates, but securing that monetary independence was one of the reasons the exchange rate was floated 30 years ago. If your target inflation rate is lower than that of your trading partners, you should expect to see the exchange rate appreciate over time, and if your target inflation rate is higher, than the exchange rate should depreciate over time.
And as it happens, when I checked the IMF database, world inflation last year was 2.8 per cent last year, a little lower than the 3.2 per cent the year before. I suppose the Minister had in mind other advanced economies or the G7 – they each had an inflation rate last year of around 0.3 per cent.
The Minister goes on
“But the fact is we’re dealing with the threat of deflation around the world.”
Well yes. Many countries have exhausted their conventional monetary policy capacity, and are stuck. We aren’t, and there is simply no reason why a country with policy interest rates well clear of the effective floor can’t keep core inflation relatively near target. As Norway has done, for example.
I suspect the Minister knows all this very well, but it is easier and less politically risky to blame deep foreign trends outside our control, than to cast any doubt on the performance of the Governor for whom he is responsible, and risk reflecting adversely on his own government’s economic performance. He did fire the odd shot across the bows of the Governor last year – which never came to much, even in his annual letter of expectation – but perhaps the government itself was under less pressure then?
The Minister continues with his defence, falling back on the “quality problems” approach preferred by his leader.
English said any assessment had to take into account that the economy was growing at faster than 3% with stable interest rates and moderate wage growth.
“These are characteristics of an economy that is actually succeeding, not one that’s failing, and that’s the important context of the discussion you have about the Reserve Bank,” he said.
“Whatever the niceties of Reserve Bank monetary policy, the fact is the economy is producing jobs, it’s lifting incomes and that’s relatively unusual.”
GDP growth has been around 3 per cent in the last year – but then population growth has been just over 2 per cent. That’s pretty feeble per capita income growth. Perhaps GDP growth will strengthen from here – as the Reserve Bank forecasts – or perhaps not.
And I’m not sure what to make of the final phrase in that block, the claim that “the economy is producing, jobs, it’s lifting incomes and that’s relatively unusual”. I’ve been among those making much of the dismal long-term economic performance of the New Zealand economy, but per capita real income growth is the norm not the exception – and typically at a faster rate than we’ve had in the last few years.
But perhaps the Minister has in mind international comparisons. Since 2007 we’ve done a little better than the median advanced country in GDP per capita comparisons. Good quarterly estimates are harder to come by, but I did find some on the OECD website. Of the 28 member countries for which they have data, the median increase in real capita GDP in the most recent year (typically year to March 2016, as for NZ) is 0.9 per cent. In other words, per capita growth in the typical advanced country is running about as fast (or slow) as that in New Zealand. Few people anywhere in the advanced world think that is a mark of success.
Pushed further, the Minister reverts to his “it is all too hard” defence of the Bank (and, by implication, himself):
“But any reasonable person would think that it’s quite difficult when you’ve got a deflationary effect around the world, where deflation has become the big threat, rather than inflation. Our Reserve Bank is trying to achieve the target in a global context where inflation is zero and interest rates are negative in some places,” English said, adding it was challenging for the Reserve Bank to hit its target.”
Many “reasonable people” might think that – it might sound initially plausible when the Minister of Finance says it – but they would be wrong. Many other countries have largely run out of policy capacity. We haven’t, but we – or rather the Governor – have simply chosen not to use it. Perhaps few people would want to hold against the Bank the initial failure to recognize what was going in the wake of the 2008/09 recession, but it is seven years later now. We spend a lot of money employing capable people in the Reserve Bank to recognize trends promptly and respond sufficiently firmly to keep inflation near target. Perhaps one day we’ll also have exhausted conventional monetary policy capacity – sadly, more probable than it needs to be because the Minister and Governor have done no planning to remove the roadblocks that create effective lower bounds – but we are nowhere near that situation now.
As I noted the other day, all the Governor has needed to do over his entire first four years in office was…..nothing. If he’d just left the OCR at 2.5 per cent then, whatever, the global pressures, inflation (and inflation expectations) would be nearer the 2 per cent target today. I’m sure the Minister knows that. He probably knows that the 2014 tightening cycle was completely unnecessary, and that subsequent reversal was – and remains – grudging at best. But the Minister won’t say any of that, even in more muted and diplomatic terms.
And I can sort of understand why not. After all, the economy isn’t in fact doing that well. Unemployment remains disconcertingly high, the government’s export target is totally off track, per capita income growth is subdued, and there is no sign of governments fixing the disaster they’ve made of the housing market. But if the Minister is critical of the Governor’s performance – even though that is the model the Act envisages – it will probably blowback on the Minister himself. The Governor isn’t up for election, but the Minister and his colleagues are.
And that was my starting point: the sort of ex post accountability the current legislative framework is built around is simply unrealistic in all but the most egregious (almost inconceivable) circumstances. And that makes it all the more important to the get the right people for the job in the first place, including not putting so much power in the hands of single unelected person who most probably won’t effectively be held to account if that person does make mistakes or prove not well-suited to the job. The current Governor only has a year to go on his term. It is tempting to suggest, quoting Cromwell to the Rump Parliament or (more recently) Leo Amery to Neville Chamberlain
You have sat too long here for any good you have been doing. Depart, I say, and let us have done with you. In the name of God, go!
In fact, we’ll just have to wait out the end of the Governor’s term, and the Minister – despite his defence – may be as pleased as anyone to see that term end. There is a real challenge in finding the right replacement – there is no obvious Churchill figure (nor, fo course, a crisis of that magnitude) – but the focus should really be on reforming the institutional arrangements so that no one person carries that much power without effective responsibility. Other countries don’t do it. And we don’t do it in other areas of government. It is time for a change.
(And it is also time for a break. I’ve been slowly recovering from surgery last week. I have a reasonable amount of energy for the basics, but none to spare, and next week I have some other stuff I just have to do. If there are any posts next week, they will be few in number.)