Possible Reserve Bank reforms: some reactions

Some of the media reaction to talk –  from both the government and the Labour Party –  of possible changes to the Reserve Bank Act  has been a bit surprising.  One leading journalist behind a paywall summed up both the review Steven Joyce has requested and Labour’s proposals as “utter balderdash”, apparently just because there are more important issues politicians should be addressing.  No doubt there are –  housing, the languishing tradables sector, non-existent productivity growth and so on –  but competent governments, backed by a large public service, can usually manage more than one thing at a time.    And although there are plenty of details to debate on Reserve Bank governance, they aren’t exactly divisive ideological issues.   A parliamentary under-secretary or Associate Minister handled most of the details of the 1989 Reserve Bank Act, in a government that did a great deal of other (often more important) stuff.

Bernard Hickey’s story on the government’s review and Labour’s proposals is headed Monetary Policy Reforms a Mirage.     That could be so.  If National is re-elected, they might advance no governance reforms.  Or they might just legislate for something very like the sort of internal committee that, in various shapes and forms, has been the forum in which the Governor made OCR decisions ever since the OCR was introduced.  But apparently at his post-Cabinet press conference, the Prime Minister –  who had rejected earlier Treasury advice in this area in 2012 –  opened up the possibility of a committee not just composed of insiders.

Meanwhile, English hinted Treasury might look at whether a rate-setting committee could include non-Reserve Bank personal. That would be a matter for the review, he said.

Beginning a process of discussing reform options tends to put a range of issues and options on the table.

The sort of decision-making and governance reforms being advanced by Labour and the Greens would be most unlikely to be “simply a mirage”.     There are number of concerns that what Labour is proposing does not go far enough, but again they are probably best seen as the starting point for a more detailed review if/when Labour and the Greens take office.  There is a risk that it could all come to not very much.   After all, even over the last 15 years the Reserve Bank has had a couple of Governor-appointed outsiders involved in the advice and decisionmaking process –  the Prime Minister’s brother is one of them at present –  and that hasn’t made much difference at all.  And requirements to publish minutes/votes can be subverted too.      But that it is why the appointment of the new Governor is so important.  If Labour and Greens are serious about reforming the way the Reserve Bank operates,  then if they become government they need to move quickly to find a person (perhaps a top team) they have confidence in, to work with The Treasury and the government to implement legislative reforms, and to lead the internal process changes to make the new, more open, vision a reality.    If they are serious about greater openness, they need to ensure they have a Governor who shares that reforming vision.   Such a Governor could make a considerable difference even if, for example, the new Monetary Policy Committee (MPC) were to have a majority of executive members.

In some ways, much the same goes for the, less substantively important, proposal to add some sort of full employment aspiration/objective to the statutory goal for monetary policy.    I’ve described it as virtue-signalling, but on reflection that might be slightly unfair.  In the narrow context of the Reserve Bank Act, it is probably about right –  if the Bank has had things a bit tight over the last few years, leaving unemployment higher than it needed to be, then often enough over the life of the Act, the unemployment rate has been below the NAIRU.   Changing the words of section 8 of the Act in isolation won’t make much difference. After all, Australia and the United States have wording Labour prefers, and yet the cyclical behaviour of their economies hasn’t, on average over time, been much different from New Zealand’s.

So I’m sure there is a bit of pure product-differentiation about Labour’s proposal in this regard.  That isn’t unusual. Most changes to the Policy Targets Agreements over the years –  from both sides of politics –  have been more about product differentiation than substance, about scratching itches rather than making much difference to how monetary policy is actually run.  For Labour there is probably is some perceived need to differentiate, and a desire to campaign (and govern?) on a whole-of-government commitment to promoting and facilitating full employment.   That is an unquestionably worthy goal.    If monetary policy choices aren’t going to make very much difference to the medium or long-term rate of unemployment, they can (and have) made quite a difference in the shorter term.  So one way of telling Labour’s story is that they want the word to get out to the public that they are committed to (medium-term) full employment, and they want the public to know that the Bank isn’t in any sense an obstacle to that, and to hear the Bank talking of the importance of the issue.  These are real people’s lives.   I noted yesterday

So the problem typically hasn’t been that the Reserve Bank doesn’t care about unemployment –  although they don’t mention it often, and there is little sense in their rhetoric of visceral horror at waste of lives and resources when unemployment is higher than it needs to be.

They probably should be talking about it more, with conviction.  The legitimacy of independent public agencies depends on part of people believing that those entities have the public interest at heart.  And everyone knows –  central banks acknowledge –  that in the shorter-term their choices do have (sometimes painful) implications for the numbers of people unemployed in New Zealand.  At a bloodless technocratic level, I’ve suggested Labour could amend the Act to require the Bank to regularly report on its estimate of the NAIRU, and how monetary policy is affecting the gap between the actual unemployment rate and the NAIRU.  But this isn’t just a bloodless technocratic concern.

So again, getting the right Governor matters –  someone who will talk convincingly and engagingly as if what they are about affects ordinary people, including those at the margins (vulnerable to unemployment and the resulting dislocation to their lives).

So, from the perspective of both strands of the Labour reform proposal, my concrete suggestion to them is that if they lead a new government after the election, they should quickly pass a one (substantive) clause amendment to the Reserve Bank Act.

Section 40 of the Act at present reads

40 Governor

(1) There shall be a Governor of the Bank who shall be appointed by the Minister on the recommendation of the Board.

(2) The Governor shall be the Chief Executive of the Bank.

Simply deleting “on the recommendation of the Board” would make our practice much more consistent with that in most other countries.  It would remove the controlling influence of a Board appointed entirely by the previous government, and it would allow Labour to have in place to lead the rest of their Reserve Bank reforms, someone of their choosing, someone in whom they have confidence.  That is how other advanced democracies do things.  It isn’t about appointing party hacks –  it is how Janet Yellen, Mark Carney, Ben Bernanke, Glenn Stevens and Phil Lowe were all appointed; capable people who commanded the confidence of the government that appointed them.

(Although it isn’t a priority for me, making this change might actually strengthen the effectiveness of the Bank’s Board in holding the Governor to account.  At present, when the Board (in effect) appoints the Governor they have a strong interest in backing their own judgement, and providing cover for the Governor.   If they were responsible for monitoring the performance of a Governor directly appointed by the Minister, they’d have less vested interest in the individual, and perhaps be more ready to represent the interests of the Minister and of the public).

As I was finishing this post, I noticed a highly critical article on interest.co.nz by Alex Tarrant.  Although he isn’t quoted, it reads in part as if Tarrant has been interviewing his father, Arthur Grimes, one of the designers of the current Reserve Bank Act monetary policy provisions, and former chair of the Reserve Bank Board.   There is a lengthy discussion of time-inconsistency issues –  a regular theme of Grimes’s.    I’m not going to attempt to respond in any detail now, but would just observe that whatever the explanations for the rise of inflation in the 60s and 70s (and I’m not persuaded by the story Tarrant quotes), what Labour seems to be proposing is something not far removed from the sorts of formal wording, and policy rhetoric, routinely used at the Reserve Bank of Australia and the Federal Reserve.  One can debate whether it makes much sense to use such langugage, or whether the formal statutory provisions in those countries make much difference, but it is hard for any detached observer to suggest credibly that the Reserve Bank of Australia or the Federal Reserve have suffered greater difficulties with credibility, or with the willingness of the public and markets to take their words seriously, than the Reserve Bank of New Zealand has faced with the current section 8 wording.   If anything, the Reserve Bank of New Zealand has had rather more problems –  odd experiments like the MCI, and two quickly-reversed tightening cycles in the last decade –  even if those particular mistakes and problems don’t have their roots in the wording of section 8.  And unlike other inflation targeting countries, there has never been an election since the Act was introduced in which some party or other (and not just the remnants of Social Credit) has not been campaigning for changes to the Reserve Bank Act or the PTA.  You don’t find anything like it in other inflation targeting countries.

10 thoughts on “Possible Reserve Bank reforms: some reactions

  1. From listening to interviews with former Fed staffers on Macro Musings, I’ve learned that there’s a lot of interplay between formal rules, personality and culture that goes into monetary policy. I would say that the broader target was a factor in the Fed’s and RBA’s superior performance to the ECB over the past 10 years. However, even that system (which Labour seems to prefer) is flawed as the Fed did far less than it should have particularly in 2008-10 and one factor was that Bernanke was held back by hard money types on the FOMC. So I prefer Labour’s reforms to the current setup on balance, but would prefer a nominal income level-based target to either of those. That’s because when the next big recession happens (and I think NZ/Aus were bailed out by Chinese stimulus last time, so we didn’t have a real test) central bankers will always underweight the plight of the unemployed.


    • I think you considerably overstate the importance of the China stimulus (esp for NZ). Of course, you have company – I noticed Murray McCully claiming we;d have had a terrible recession without it, even though the actual path of GDP per capita in the US and NZ over the last decade have been remarkably similar. I had been pondering a post on that point.

      Liked by 1 person

  2. As I understand it the Governor of the Reserve Bank has one target; keep inflation within a certain range. That implies that, damn the consequences, unemployment, strength of the currency, etc. can be ignored provided inflation is within the target range. If this inflation target is diluted by the addition of other desirable out comes it then it becomes a political decision to trade off inflation against employment or what ever desirable outcome the government of the day decides to include. This is politicians transferring what should be a political decision to an unelected body.


  3. It has never really been that simple: the goal isn’t to keep headline inflation at 2% every single quarter. Once one deviates from that it inevitably introduces quite a lot of discretion, and unemployment, the exchange rate and even interest rate volatility itself are things the Bank has (and is generally regarded as right to do so) taken into account, in deciding how aggressively to respond to particular or general inflation pressures at any point in time.

    One can argue that all those trade-offs should be made by politicians. It was, more or less, the approach taken in the very first PTA, which last only 9 months, when everyone agreed that it was more sensible for the Bank to make those judgements (within limits) and then be held to account for the quality of the judgements. But that is a reason why I think RB decisionmakers (whether one or a committee) should all be appointed by elected politicians – as is the case for most positions in most other advanced countries. We – voters – can’t toss the Governor out, but we can toss out the politicians who appoint him. Same goes for a whole variety of govt boards with delegated powers.


  4. If one assumes that we live by trade and that we should therefore sell more than we buy i.e. raise our standard of living, where or how is this part of the current conversation?
    If the rest of the world has 25% inflation then we import a fair amount of that so Kiwi’s are naturally screwed because by definition the RBNZ has to counter that inflation with higher interest rates which in turn increases costs for all Kiwi’s including exporters.
    Seems like a virtuous circle for the RBNZ and the banks to me but of no value to Kiwi’s in general. Adding to the interest rate simply transfers money from individuals to the banks. Doesn’t solve inflation but sends people broke.

    We have seen this experience a few times now.
    something about doing what you have always done gets the same results. So, when we see rates go up we kill off the producer and kill the opportunity for producers to export.

    Now if the brains trust can come up with a plan to fix that then we will start to listen.
    Meantime we are tinkering with something that is of bad effect.
    Why, well because everybody else does.

    Lets do some real thinking.


    • As i noted in the post, RB goverance reforms aren’t the most important issue facing NZ – but neither are many other worthwhile things on the legislative agenda of any govt.

      But on your specific, if the rest of the world has a 20% inflation rate and we have 2% inflation, we will tend to have an appreciating exchange rate and nominal interest rates well below those in the rest of the world.

      As it happens our inflation target is very similar to those of a wide range of advanced economies. 20 years ago Winston Peters campaigned on the idea that the RB should target inflation equal to the average of our trading partners’ inflation rates. As it happens, there has been a lot of global convergence of targets, announced or implicit. Ours was raised, twice.


    • Indeed, if the intent is have more people save then the government should have a policy that includes a variable compulsory superannuation scheme which David Parker introduced. Singapore has varied their Employer and Employee contributions from 15.7% down to 8% during the GFC and now it is back up to 17% employer contribution in a booming economy.

      The government should preempt any OCR rises with a policy of increasing company and employee kiwisaver. Our meagre 3% employer contribution should be increased to around 8% to cover the stolen years when John Key suspended the Employee contributions annual increments to 5%.

      Where is Labour on this policy? Sleeping?


  5. Vikingonmars “Lets do some real thinking” Unfortunately we are talking about the Neo Classical model, there is no room for that sort of thinking, unlimited credit / debit creation by the banks matched by civil servants in Wellington deciding on what the market interest rate is…. I don’t think so

    I suspect you are being too revolutionary in your thinking. The rumour is that Sadam Heussein was deposed as he wanted the Arab world to price oil in Euro’s and that Gaddaffi was similarly deposed off as he wanted to price oil in gold dinars. Both these models directly contradict US hegemony, and of course the neo classical model.

    Russia and China, and I think India have quietly been accumulating gold over the last 5 year or 7 years..perhaps they have a different model in mind too?


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