There is a huge number of stories around at present on various aspects of monetary policy and the (successive) governments-made housing market disaster (the two being, in fundamentals, quite unrelated). Were I in fine full health and energy I’d no doubt be writing about many of them. Instead, I’m going to focus here just on the controversy around the Reserve Bank’s so-called Funding for Lending programme, the details of which were announced last week.
It isn’t always inviting to defend the Reserve Bank, since they are often (as here) their own worst enemy, but on the essence of the FLP programme I’m mostly going to. That doesn’t mean I think it is a particularly good scheme – there is a perfectly straightforward way to lower interest rates (the OCR), which influences the exchange rate as well, that they simply refuse to use. And they have named the scheme in a way that actively misleads and invites misunderstanding from those who haven’t thought hard about monetary systems.
All the FLP programme really is is a scheme to lower interest rates a bit more without changing the OCR. That isn’t just my take; that is the official Reserve Bank view. Here is the graphic from the MPS last week as to how they think the thing works
Even that is a bit inaccurate since – as the Governor explicitly noted in his press conference the other day – the expectation that the Bank will be willing to offer funds (not a dollar has yet been transacted) has already done the job. Retail deposit interest rates have fallen relative to the OCR.
But you will note that nothing in that graphic talks about a channel in which additional funds are now available in ways that enable banks to lend in ways, at rates ($m), they couldn’t otherwise.
There are at least two good reasons for that.
The first is that banks are simply not funding constrained. In fact, they are awash with central bank provided funding/liquidity: total settlement cash balances that were about $7bn pre-Covid are now about $24bn. If lending is not occurring at present to the sort of borrowers that some politicians or commentators might prefer – and you have to wonder what such private transactions have to do with them – it isn’t because banks are facing some sort of funding constraint (actual or prospective – there is no uncertainty that adequate funding will be available, including because the Reserve Bank’s core funding requirements – on precise types of funding – have been markedly relaxed for the duration). The Governor made basically that point in his press conference the other day: if not much new business lending is happening at present that is most likely because there is considerable (much larger than usual) economic uncertainty – not anyone’s fault, not anything that can quickly be allayed. That uncertainty affects both prospective lenders and prospective borrowers. Market reports – and the RB credit conditions survey – indicate that banks have tightened their effective credit standards, which is surely what one would expect – probably even hope for, from prudent bankers – in such a climate. There will always be chancers, keen to borrow, but in such a climate banks should probably be particularly cautious about potential business borrowers without strong collateral who are particularly keen to borrow.
So at a system level (and we have no reason to suppose it is different at an individual bank level), settlement cash – which is what the Bank is willing to supply – simply isn’t a constraint on lending. (It wasn’t really even in the 2008/09 recession here, although then New Zealand banks and their parents had reasonable concerns about ongoing access to specific classes of desirable funding.)
As importantly, at an aggregate level any Funding for Lending programme lending does not replace other funding/deposits. In the normal course of bank business in a floating exchange rate economy, and for the system as a whole, deposits arise simultaneously with lending. All bank lending either results in a reduction in someone else’s loan or adds to deposits. That is true within the banking system as a whole, although not for any individual bank (if Bank A increases lending particularly aggressively most of the new deposits may end up at other banks in the system). Any Funding for Lending loans to banks add to their liabilities, but they (collectively) don’t need those liabilities to increase lending. What FFL loans will do, in direct balance sheet terms, is to increase bank borrowing from the Reserve Bank, and increase bank lending to the Reserve Bank (settlement cash balances). And that is it. All the other deposits will still be there.
Now this isn’t to suggest that the FFL scheme is futile. It is not. As the Reserve Bank notes, it is a way of lowering interest rates a bit more. And that is really all. It does that partly through signalling effects and partly (ultimately) because each individual knows it can compete a bit less aggressively in the term deposit market and still be sure (individually) of having ample funds. If all banks respond similarly, there won’t be systematic drains from any of them. And there won’t be much need for many actual FFL loans to occur at all. Time will tell whether the scheme is much used, but if it isn’t that is almost a bonus: it worked (lowering term deposit interest rates relative to the OCR) by the Bank’s willingness to provide, without needing actually to provide much at all.
From banks’ perspectives they’d probably prefer (at least in aggregate) not to use FFL much at all. After all, they borrow at the OCR and then the additional settlement cash (in aggregate) just earns them the OCR, and in the process they just blow up their balance sheets a bit more. But they probably like the option value of knowing the Bank is willing to lend at the OCR – which happens to be roughly where short-term interest rates are.
Which is a (perhaps longwinded) way of saying that the controversy over whether the Bank should have tied these loans to “productive lending” – a weird notion in itself, but that is a topic for another day – is strange and largely empty. I suppose the Bank could have insisted it would only lend under FFL to the extent banks increased their business lending, but had they done so there would have been a very real prospect that the mechanism would not have worked at all. As noted above, banks are not funding constrained and – as almost everyone seems to agree, with the possible exception of Andrew Bayly – to the extent business lending is not growing (it doesn’t usually in recessions), it has little or nothing to do with availability of funding. The scheme is designed to lower interest rates, and seems to have done that. Tying eligibility to particular types of lending – that just aren’t attractive at present, to most borrowers or lenders – would have markedly reduced the effectiveness of the tool, with no gains for the actual lending the politicians purport to champion. That, in turn, would have been a recipe for deepening and lengthening, a bit more than necessary, the recession. Some seem not to mind that, but one would have hoped that neither the government (which made employment an explicit focus for the Bank) nor a responsible Opposition would want that.
But to repeat, the Reserve Bank are supposed to be experts in this stuff, and yet they directly contributed to the problem by so egregiously mislabelling the scheme, in a way that led laypeople to think that somehow “funding” was the constraint on lending (or that up to $28 billion would be pouring into new lending, when in fact the simple availability of new settlement cash will probably no difference whatever to the stock of loans on bank balance sheets). Had they called it a supplementary short-term interest rate management tool it would have been more accurate – but I guess would have sounded less glamorous at the time.
Finally, note that unlike the LSAP programme, the FFL does not involve any material financial risk to the Crown or the Bank, so there was no need for a Crown indemnity. Any FFL loans are fully-collateralised on highly-rated securities, and the Bank’s haircut requirements are usually quite demanding, and all the loans are on floating rate terms (the OCR, as it potentially changes), matching the floating rate liability the Bank will also be assuming (the additional settlement cash balances).
croaking cassandra 
Hi Michael, I agree 100%.
To be fair to the bank, I think they pinched the name from the Bank of England who came up with the Funding for Lending Scheme (FLS rather than FLP) in 2013 or something like that.
The way I see it, the FLP gives banks the confidence to lower the rates on TDs and redeem wholesale debt. The net result, in aggregate, is likely to be a shift to shorter term and hence cheaper funding for banks (depositors rotate to call accounts from TDs if the pickup isn’t much and the money paid to redeem wholesale bonds ultimately winds up back as deposits).
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The RBNZ really has no choice but lend to banks to clear a $50 billion debt it owes banks.. The elephant in the room is the growing liability on the RBNZ books of Settlement deposits amounting to now $50 billion mainly due to purchasing Treasury Bonds.
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Now that Grant Robertson just threw in a big NO to the $28 billion that the RBNZ was trying to onlend to banks to square off its $50 settlement deposit liability owing to banks, the NZD just jumped again to now 0.697. Every currency speculator knows that the $50 billion in bond buying has resulted in no extra NZD available for anyone to spend up. The $100 billion money printing that has been a special non event so far.
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Correction: to square off its $50 billion settlement deposit liability.
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It is quite disturbing when financial journalists like Jenee Tibshraeny makes up numbers like $128 billion in money printing when the actual money printing is only $28 billion through the FLP. The other $100 billion so far only $41 billion has been effected to buy Treasury bonds which has created a giant $50 billion IOU liability on the RBNZ books. Clearly Janee does not have a clue as to how to read a Balance Sheet. Better to call herself a gossip journalist if she cannot even understand the basics.
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Note that an IOU is not money printing.
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It is ridiculous that Duncan Garner of TV3 is now stupidly repeating fake news firstly put forward by Gossip columnist from interest.co.nz, Jenee Tibshraeny that the RBNZ is printing $128 billion. Let’s stick to facts instead of fake news.
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Reblogged this on Utopia, you are standing in it!.
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Nice commentary. It surprised me they didn’t simply take their Term Lending Facility (TLF) and change the collateral and coating requirements and use that rather than invent a parallel facility.
Any thoughts?
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Probably didn’t want guilt by association with two schemes that didn’t do much – their TLF and the govt’s business loans scheme.
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Michael
I think you need to sit back and consider what outcomes RBNZ should be targeting and then ask if their tools/approach are working to deliver those outcomes.
If you look at the “what is actually being delivered” column, it looks something like (a) facilitation of fiscal binge (b) more and cheaper residential mortgage funding (c) reduced funding for productive sectors (d) lower returns for savers (e) lower returns on risk assets and hence higher values (f) strong NZ$ (g) sound banks.
Is this good enough?
Government and housing gets lots of cheap money. But less so for productive enterprise.
The assertion from BizNZ that business does not want to borrow is wholly unlikely to be based on any survey.
I think Michael Cullen was on the money with his suggestion that RBNZ needs to be more targeted. Ironically the same suggestion as Andrew Bayley.
If flooding the banks with money just means residential loans, isn’t it time for a rethink?
We all know the arguments against RBNZ accepting credit risk, but if they refuse to take that step we can only expect more of the current status quo.
Tim
PS. I hope your health is on the improve. Unfortunately in Wellington I guess you will not be able to get outside to sit in the sun… there not being much of that about with our terrible weather.
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There is a lot there, and many points I’d like to be able to address at greater length. As you’ll recall I’m a deep sceptic of the LSAP, but I doubt it is making much difference to the “fiscal binge” ( which Cullen wants more of). On credit demand, if I recall the RB credit conditions surveys correctly there had been a substantial drop in demand for new investment finance but some lift in working capital demand. On the exchange rate, it would be higher still if the RB had done less this year.
The overall picture isn’t pretty and is complicated by the refusal of the govt to do anything serious about fixing the house market at source. But if the RB starts making credit allocation decisions I think we’d be heading down a v risky path.
On my health, perhaps a little better but I rather rashly wrote that post this morning and then literally had to lie flat on my back for the rest of the morning. Good for getting books read, but not much else.
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“The Governor made basically that point in his press conference the other day: if not much new business lending is happening at present that is most likely because there is considerable (much larger than usual) economic uncertainty – not anyone’s fault, not anything that can quickly be allayed. That uncertainty affects both prospective lenders and prospective borrowers.”
Quite the point – there is no demand for additional business lending and yet the RBNZ still proceeds with with FFL.
And thus given the huge systemic distortions in land availability & no real capital gains/land/wealth taxes the low interest rates are simply going to pump up land prices even further as already witnessed over previous weeks which is totally unproductive use of capital.
The only way to get certainty is a fiscal response by government to create the demand. There are 10s of thousands of low income houses that the government needs to build, an RMA to fix, and some type of land/wealth tax to implement. Then monetary policy may be able to do what its meant to.
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Re “totally unproductive use of capital”, remember that for every buyer there is a seller. No more real resources are tied up in housing, just that the prices are higher.
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The Ports of Aickland will achieve inflation when the RBNZ has failed for the last decade. Simply process of demand and supply. Hold up supply any longer now with 10 container ships unable to offload cargo and prices will up through the roof.
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Although it might be true in the short term that no more real resources are tied up in housing, I would think in the longer term people will observe that the capital gains from buying and developing housing far outweighs most other forms of earnings possible from productive investment.
Consequently they will direct their efforts and careers toward those activities, whether construction, property development, becoming real estate agents and so on. Anecdotally, I recall hearing a person with an advanced degree in computer science fantasizing about being a landlord and being able to give up full-time work.
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Not sure how they distinguish between business and household lending.
In many cases, you have to borrow using your house as collateral for your business.
That gives lower rates I know in my case it was never designated as business lending, just a house loan.
I’m sure that a lot of small businesses are treated the same.
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There is a statistical distinction but it would quickly breakdown if ever used for regulatory purposes.
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Then there is this.
https://www.newshub.co.nz/home/politics/2020/11/business-leaders-reject-national-s-call-for-govt-to-rein-in-reserve-bank-impose-conditions-on-new-funding.html?fbclid=IwAR3w0W6Bf7RNpmMSWMWoLl7t6SaYyzK3RJA4CcYshQ3A1Uz952Pb2WXxoio
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Everyone wants a booming property sector. It employs hundreds of thousands of workers. National party has lost the plot.
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In your previous comment you say that inflation is expected to be below 1% for the next two years.
Anecdotally and factually that just can’t be so.
Price rises across the board are soaring. Rent ,accomodation costs, food ,wages and salaries (note the proposed minimum wage increase). Assett prices :housing ,vehicles you name it are rapidly increasing in price.
For example, even our favourite tourist hotel room is now $230 vs six months ago a mere $130.
Inflation is now out of control but it seems there is an official failure to recognise this.
I accept economists can really only measure the past and with that there is always a lag.
In this case it seems we are now in a very dangerous fool’s paradise.
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Some goods and services rise but others fall. The inflation index measures hundreds of items and the start reality is that inflation continues to remain at the very low 1% and threatening deflation. While China, Vietnam and other up and coming third world nation mass produce with mega factories, inflation is not going anywhere fast. There is just too much excess inventory and excess production capacity in those mega factories for prices to rise on consumer goods.
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GGS,
Thanks
Act have also expressed their concern re inflation measurement.
Two inflations perhaps, (1)measured (2) underlying?
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