Reading the papers yesterday for a forthcoming meeting, and as “reward” for getting to page 200 (or thereabouts), my eye lit upon (a version of) this chart. Here I’m showing quarterly data.
It was a salutary reminder of the days – must have been around 1998 – when JGB yields first fell materially below 2 per cent. I was responsible for the Reserve Bank’s markets monitoring unit at the time, so we paid a fair amount of attention to this stuff. One of my young staff and I spent hours discussing the possible opportunities for shorting JGBs. After all, everyone “knew” that long-term bond yields couldn’t stay that low for very wrong. Fortunately we never put the trade on, but in the intervening 20 years I’m sure many people have at various times. The 10 year Japanese government bond yield today is -0.05 per cent.
It was a New Zealand based outfit – Melville Jessup Weaver – that did the chart I saw, but here is a version with Australia added.
And, as a reminder, Australia and (even more so) New Zealand have long had the highest real interest rates in the advanced world.
The point of the chart in the article I was reading was to make the point that further, perhaps quite material, falls in New Zealand bond yields are not impossible. It isn’t even as if Japanese bond yields are that much of an outlier: German 10 year bond yields are also slightly negative (and Germany has had one of the strongest performing advanced economies in the last decade or so).
What could take New Zealand bond yields much lower? Well, I’ve argued for years now that the biggest single factor explaining why New Zealand real interest rates are so much than those in other advanced countries is our policy-driven rapid rate of population growth: savings rates are modest, and resource demands for a rising population are large, and high real interest rates (and a persistently high real exchange rate) reconcile those two ex ante pressures. Cut the non-citizen immigration target as I’ve recommended and I would expect to see considerable convergence. That would be good for our productivity and business investment prospects.
And, of course, the other (much less favourable) scenario is the next serious economic recession. Simply cutting the OCR to (say) -0.75 per cent (about as low as people think it could feasibly go) wouldn’t of itself immediately result in near-zero bond yields – indeed, as was the case in 2008/09 globally, aggressive policy rate cuts help create an expectation that rates won’t be low for long. It was a couple of years after the 08/09 recession before markets really started pricing the idea that low short-term rates might hang around. But whereas in 2008/09 most central banks could cut policy rates by 500 basis points, if the next recession happens in the next couple of years most advanced country central banks won’t have even 200 basis points of conventional policy space (the Fed a little more, and most in Europe much much less). And markets will recognise that limitation quite quickly, and begin to price conventional government bonds accordingly. Even in New Zealand (or Australia) conventional nominal bond yields could quite easily go to 50 basis points or less.
As I noted yesterday, the Governor keeps on with his cavalier tone that there is nothing to worry about and the Bank has lots of potential tools – the sort of exceptional stuff all sorts of other countries did after the last recession when they reached their effective lower bounds on nominal interest rates. Sentiment at the BIS in Basle might be a bit different – they aren’t responsible to any voters, or for any excess capacity/unemployment – but I doubt there would be any policymaker in any advanced country who could look back on the last decade with equanimity, and not wish they’d had the tools available to lower the unemployment rate faster. After all, almost nowhere was rising inflation an inevitable constraint. New Zealand is better placed than some countries, in having a floating exchange rate, but (for example) the UK had one of those too.
The second chart I noticed in the last day or so was this one from the Reserve Bank’s Monetary Policy Statement.
I’m not entirely sure how they derive this measure – there must be a research paper online somewhere, which I will try to track down – but it is cited as evidence that “employment is near its maximum sustainable level”. The text focuses on the rising trend last year, but in making that comment the authors of the Monetary Policy Statement (for which the whole MPC is presumably responsible), the authors appear to have ignored the rest of the chart. After all, on this measure less than half the ground lost during the last recession has been recovered (and that incredibly slowly) and – even allowing for the fact that the peak of the last boom was unsustainable – the current value of the indicator is still not back to where it was in 2002 or 2003, when nobody (at least as I recall it) would have thought of labour as fully employed.
There does seem to be something of a tension in the Bank’s analysis and official rhetoric. If labour is really fully-employed (in that weird statutory formulation “maximum sustainable employment”) as they have been saying for the last year – through upside and downside OCR biases – why are they cutting the OCR? More plausibly, a lower OCR would allow the economy to run a bit more strongly, unemployment a bit lower (and, per the chart, people who lose jobs finding a new one more quickly), with the not inconsiderable bonus (given the statutory mandate) of a higher inflation rate.
On which note, one hears that the Reserve Bank’s research function has been substantially gutted, with several recent resignations in recent months from among their best-regarded and most productive researchers (and the manager of the team left this week and is reportedly not being replaced). The Bank’s research function once played a very influential part in policy and related thinking, but that is going back decades now. Even with a Chief Economist who himself had a strong research background, the research team never quite found a sustained and valuable niche in recent years, even as some individual researchers have generated some interesting papers, often on topics of little direct relevance to New Zealand. One of the most notable gaps is that the Bank has become increasingly focused on financial stability and financial regulation, and yet little or no serious research has been published in those areas of responsibility (a senior management choice). That weakness has been evident in the recent consultation document(s) on bank capital.
One can always question the marginal value of any individual research paper, but we should be seriously concerned if the Reserve Bank under the new wave of management is further degrading the emphasis on high quality and rigorous analysis. Apart from anything else, a good grounding in research has often been the path through which major long-term contributors to the Bank have emerged, including former chief economists (and roles more eminent still) Arthur Grimes and Grant Spencer. I see that the Governor is delivering an (off the record) talk at the New Zealand Initiative today: perhaps someone there might like to ask just what is going on, and what place the Governor sees for a research function in a strongly-performing advanced country central bank. Not even he, surely, can count on Tane Mahuta for all the answers.