Morning Report had invited me on this morning to talk about Graeme Wheeler, the change of governor, prospects for a permanent successor etc. The death of Steve Sumner apparently changed their schedule so that interview didn’t happen, but I’d already jotted down some notes as to what I might say, so I thought I’d use them here. Wheeler, of course, still has seven months in office, and we’ll see his next Monetary Policy Statement tomorrow.
When Graeme Wheeler was first appointed as Governor, there was generally a fairly positive reaction. I shared that view. Until quite late in the process, I’d assumed that Grant Spencer was the favourite for the role – after all, successful organisations tend to promote from within, and a capable insider should always have an advantage, being constantly visible to the Board. And so when Graeme was appointed, my initial reaction was “well, he must have been a very strong candidate to have beaten the capable internal deputy”. And it was well known at the time that Bill English and John Key had been keen to have Wheeler back in New Zealand – there had been well-sourced talk that the Minister had wanted him as Secretary to the Treasury, something apparently stymied by SSC bureaucracy.
With hindsight, one can only conclude that the Bank’s Board – the key players in the appointment of the Governor – just didn’t do a very good job in evaluating the candidates. Perhaps that shouldn’t be surprising – mostly behind the scenes people themselves, they don’t have much experience in appointing someone to a position with as much visibilty and probably more untrammelled power than most Cabinet ministers. There are suggestions that Board members were rather too easily swayed by big names Wheeler had produced as referees, and by his international connections (coming just a few years after the international financial crisis) rather than looking hard at the qualities required to do the Reserve Bank Governor job well. Since many of the Board members then are still on the Board now, one can only hope they’ve learned from their experience.
I think Wheeler has done a poor job as Governor, both in the specific decisions he has made, and in the processes and procedures and style he has adopted. For most of the time, he seems to have been aided and abetted – or at least sheltered – by the Board, who are actually paid as the public’s agents, not as associates and defenders of the Governor.
And it is not as if times have been unusually hard for him. We haven’t had a recession in New Zealand and there has been no major flare-up of international financial stresses during his term (so far). The terms of trade moved around a bit, but not much more so than usual. There was no domestic financial crisis, no major domestic fiscal stresses, no change of government, and the major natural disasters of the last decade (the Canterbury earthquakes) had all happened by the time the Governor took office. Sure, what is going on globally is a little hard to fully make sense of, but whereas most other advanced country central banks had by 2012 largely reached the limits of conventional monetary policy (interest rates very close to zero) that has not yet been a constraint here.
The Reserve Bank’s primary function – according to the Act – is monetary policy. Graeme came into office with a new PTA that he was comfortable with – in particular, with an explicit focus for the first time, on the 2 per cent midpoint of the inflation target range. And yet over his 4.5 years in office, annual headline inflation has averaged not 2 per cent but 0.8 per cent. Falling oil prices played a part in that, but CPI ex petrol has averaged not 2 per cent, but 1.1 per cent. The Governor’s preferred measure of core inflation – the sectoral factor model measure – has averaged not 2 per cent, but 1.35 per cent. All sorts of one-off factors that the Governor can’t be really be held accountable for influence inflation rates – thus cuts in ACC levies have held down headline inflation in the last couple of years, while large increases in tobacco taxes have artificially boosted headline inflation throughout the Governor’s term.
There are a lot of comfortable commentators inclined to treat these inflation outcomes as a matter of indifference – so what they imply, after all low inflation is better than high inflation. But persistently low inflation over several years – and especially when it doesn’t arise from surprisingly good productivity outcomes – almost invariably comes at a cost – lost output, and lost employment. And that has almost certainly been the case over the last few years. Throughout the Governor’s term, the unemployment rate has been reasonably materially above estimates of the non-inflationary or “natural” level – these days thought to be around 4 per cent. The Governor’s choices affected the lives and options of real people – and years lost out of employment simply can’t be got back.
My standard here isn’t one of perfection. Central banks, engaged in active discretionary monetary policy of the sort now common around the world, will inevitably make mistakes. Central banks try to operate on the basis of forecasts, and yet no one – least of all them – knows the future. So in evaluating the Governor, we need to look at the specific circumstances, and at the willingness to acknowledge and learn from mistakes. Here, Graeme Wheeler doesn’t score well.
Before he came to office, the Reserve Bank had already once misjudged the need for a tightening cycle to commence, and had had to reverse itself. At the time – 2010/11 – they had some company internationally, and there was a fairly widespread expectation that interest rates would need to return to “normal” fairly soon. That wasn’t the case by the end of 2013, when the Governor was not just talking about tentatively beginning a tightening cycle, but confidently asserting that interest rates would need to rise by 200 basis points. He – and his machinery of advisers – simply got that one wrong. Fortunately, they never raised the OCR by 200 basis points, but it was 18 months before they even started to reverse themselves – and even now, to my knowledge, they have never acknowledged having made a mistake. In so doing, they’ve unnecessarily exaggerated both interest rate and exchange rate variability, all the while leaving unemployment unnecessarily high. Good managers and leaders recognise that human beings make mistakes, but they expect those who make them to acknowledge and learn from them. Graeme Wheeler failed that test.
The other big part of the Reserve Bank’s policy responsibilities is the regulation of key elements of the financial system, to promote the soundness and efficiency of the system. Graeme made that a much more prominent part of the Bank’s role with his enthusiasm for successive waves of LVR controls. The Reserve Bank has no policy responsibility for the housing market, or for house prices, only for the soundness and the efficiency of the financial system. And yet I see a leading commentator criticising the Governor for not doing the impossible:
Wheeler should have earlier called out the Prime Minister and Finance Minister on their tardiness in developing policy responses to counter the house price bubble. But he was late to the party.
Notably, the bank was also tardy in its own policy responses, thus earning itself a rebuke from then Prime Minister John Key, who rather cynically tried to take the focus off a Government that was running immigration hot for its own ends.
A more adept governor should have been able to persuade the politicians that slowing the boom was a job for both the politicians and the central bank. And that it was necessary for NZ’s long-run stability.
Quite how Graeme Wheeler was supposed to have changed the mind of the government on reforming supply – when no one else, in New Zealand or in many Western countries, has succeeded in doing that – is a bit of mystery. I have pretty high expectations of a Reserve Bank Governor, but that seems like a Mission Impossible task. It is not that reform couldn’t be done, but against a Prime Minister determined to present high and rising house prices as a mark of success, a central bank Governor, with no detailed background in the area, no real research to back him, and no particular mandate wasn’t likely to succeed. After all, our housing supply and land use laws have created problems, interacting with immigration policy, for 25 years, and Alan Bollard and Don Brash had made no inroads either.
As for the Bank being “tardy”, hardly. When Graeme Wheeler took office, no one in the Reserve Bank had been keen on direct LVR controls – they were a clear fourth preference, when assessed against the Bank’s responsibility for financial system soundness and efficiency. But Graeme rushed such restrictions into place, at times surprising even his own senior managers, with no tolerance for any debate or dissent (there was no substantive discussion of the merits of the measures at the key relevant internal committee). If you think LVR limits were a good thing, the last thing you can accuse Graeme of was being tardy. I think they were ill-conceived, sold on a false promise (about how temporary they would be), are still poorly-researched, and have spawned one new set of controls (and odd exemptions) after another. And, unsurprisingly, the real housing market issues – mostly about land supply, not finance – haven’t been dealt with. Wheeler liked to fancy himself as a shrewd political player, and yet if there is a valid criticism of him in this particular area it is as much that he eased the pressure on politicians by rushing to do something/anything, at time when there was a growing sense that “something must be done”. The appropriate response to “something must be done” is not “so anyone should do anything”. And it remains concerning that despite Wheeler’s penchant for increased use of direct controls – harking back to earlier decades – there has been little or no serious analytical or research engagement with the issues around the efficiency of the financial system, and the way in which direct controls can undermine efficiency, and in the process favour insiders over outsiders, the well-connected and well-resourced over the more marginal, and so on. The experience of the US over 2008/09 – where Wheeler lived at the time – always seemed to loom large, and never once has the Bank answered my challenge to consider the similarities and differences between the US and New Zealand, or to look at the experiences of countries (many of them including New Zealand) that didn’t have domestic financial crises in 2008/09 despite large house price booms.
Effective communication is a big part of what the central bank governor should be expected to do, and the more so in New Zealand where (a) all the statutory power rests with the Governor personally, and (b) where the Bank has such wide-ranging powers, and is not just responsible for monetary policy. And yet during the Wheeler years, the Bank hasn’t done well on that score either. The number of on-the-record speeches the Governor has made has dwindled, and those he does give don’t typically compare favourably – in terms of quality, depth and insight – with those of his peers in other countries. There have been specific communications stuff-ups (speeches inconsistent with subsequent action etc), although I’m reluctant to be too harsh on those – most central banks end up with some of those problems in one form or another, at some time or another. But it is also a matter of accountability: Wheeler has been very reluctant to grant serious media interviews (none at all to the main TV current affairs programmes, and only belatedly the occasional soft-soap interview to the Herald) in a way that is quite extraordinary for someone personally wielding so much power. A Cabinet minister wouldn’t get away with it. And in his press conferences, the Governor has often come across as embattled, defensive and weary. Despite his past senior roles, he had no background in the public limelight, and clearly wasn’t comfortable with it. But that was a significant part of what made him, at least with hindsight, the wrong person for the job.
Neither in my time at the Bank – around half his term, involved in most of key policy committees – nor subsequently have I seen any sign in the Governor of wanting to foster a climate of debate and explorations of ideas and alternative options. I mentioned the LVR controls already, but they weren’t the only example. In my own experience, one small example lodged in my brain. One day a few years ago Graeme was down in a meeting in the Economics Department and there was a bit of a low key discussion about alternative policy approaches etc: the death glare I received for even mentioning, hypothetically, nominal income targeting was a pretty clear message, not just seen by me, that what the Governor wanted was support for his position, and answers to his detailed questions, not alternative perspectives or debate, no matter how non-urgent the issues were. People respond to incentives. In a area so rife with uncertainty as monetary policy, it is very dangerous approach. The same goes for the ability to deal with external criticism – a capable and intellectually confident Governor would recognise the value in alternative perspectives and relish the prospect of engaging with the alternative ideas. Doing so is part of how people come to have confidence in the Governor. But there has been none of that with Wheeler – if anything he seemed to become unreasonably rattled by disagreement (his active effort to tar the messenger who drew to his attention the OCR leak last year was a sad example of that – made worse by the cover he received for it from his Board).
I could go on, but won’t at length. The Governor has been highly obstructive in his approach to the Official Information Act – we still don’t have access to papers relating to the 2012 PTA for example – and has done nothing to advance transparency around the Bank’s medium-term spending plans. Nothing appears to have been done to prepare for the likelihood that the near-zero bound will become an issue here in the next recession. The refusal of the Governor to engage with serious evidence of past misconduct around staff superannuation policy is a blight. And despite the large team of researchers and analysts the Governor commands, there has been little good policy-relevant research published in the last few years, particularly in the areas of financial system regulation and macro and financial stability. Sadly, the Reserve Bank has been living off reputational capital for some considerable time now, and one of the challenges for a new Governor should be turning that around and lifting the quality of the Bank’s outputs and its senior people.
As I’ve noted before, I give the Governor a small amount of credit for his recognition that the single decisionmaker model is past its use-by date, and should be reformed. A committee of his own apppointees – his two deputy governors and one assistant governor, all answerable to him – is not the right answer, but at least he was willing to start addressing the issue, unlike his predecessor. Responsibility for the Reserve Bank governance model rests mostly with the Minister of Finance and the Treasury, but the Governor sought to get approval for legislative changes and failed. That reflects poorly on him – our current model is so out of step with how countries do things and how government agencies are structured – and is partly a reflection of his own fixation on a technocratic model, and partly of the loss of trust he incurred with the Minister and the Treasury (including around the financial regulation powers). The Bank should have been able, by a flow of good research and analysis, to have helped shape a public debate on the appropriate future governance model. But it failed to do that – and now still refuses to release any of the background papers from that long-completed work programme undertaken at taxpayers’ expense (and this time, extraordinarily, they have managed to get Ombudsman cover for their refusal).
Quite who will be the next Governor is anyone’s guess. If I had to put money on it, I’d assume it would come down to a choice between Geoff Bascand and Adrian Orr – both of whom have their own weaknesses – but there are other possible candidates both here and (New Zealanders) abroad. Even though the Bank’s Board have all been appointed by the current government and have the key role in determining who will be the next Governor, quite a bit could still turn on the outcome of the election and what changes, if any, they might want to make to the Act. In my view, whoever wins the election should focus quite quickly on sketching out a plan for governance reforms, and should look to appoint a person who will be able to carry those through and help the Bank adapt, and perform well, under a new model, under which the Governor personally would have a vital role, but a much less dominant personal role in determining monetary and bank regulatory policy.
Doing so now isn’t a reflection on Graeme Wheeler – as perhaps it might have been seen as a year or two ago – just a recognition that times, and the institution and its challenges, have changed, While so much power rests with the Governor personally, it is important to appoint someone with some reasonable credibility in the subject areas the Bank is responsible for – an effective deputy can do much of the day-to-day management of what isn’t a very large or complex organisations – but if the new government, of whatever stripe, is seriously willing to move to a committee-based model (the more conventional approach) then the requirements for a Governor would be rather different. Change management skills would be a key component, as part of revitalising the Bank and shaping a position for a strong chief executive who can support the decisionmakers – rather than being both the principal decisionmaker, and the one who controls all the flow of paper, him or herself. It might be a little more akin to the important role a Secretary to the Treasury plays in leading his organisation as advisers to the Minister of Finance.