Guest post by Geof Mortlock: coronavirus response

What follows is an article on various issues around the New Zealand coronavirus policy response by my former Reserve Bank colleague, and now consultant, Geof Mortlock.     The views are Geof’s alone, but I thought it was interesting and clear articulation of a case that deserved a wider audience.   Geof and I certainly don’t always agree –  sometimes we differ quite strongly.  And so it is in this article where there are bits I strongly agree with, others I’m more open-minded about, and others I’m pretty sceptical of (eg I don’t have a great deal of confidence in the value added by hands-on bank supervisors), but to repeat they are Geof’s views and not necessarily mine.

Coronavirus response: More clarity on objectives, response options and recovery strategy is needed

Geof Mortlock¹
Last week, the government released a paper that summarised its objectives for combatting the coronavirus pandemic in New Zealand. The paper, entitled ‘Written Briefing to the Epidemic Response Committee’, prepared by John Ombler, the All of Government Controller, noted that the government’s coronavirus response strategy is now aimed at ‘stamp it out and elimination’. Previously, the objective had apparently been to ‘flatten the curve’, also known as ‘mitigation’ – not that one would have known it, given the inadequate transparency and clarity in the government’s strategy to date. Despite the attempt at clarifying the objectives for the coronavirus response strategy, Mr Ombler’s paper perpetuates ambiguity, given that it refers to a strategic objective of ‘elimination’, but then goes on to suggest that the strategic objective is ‘suppression’ – i.e. keeping infection levels to a low-enough level as to minimise the risk of exceeding the health system’s capacity to deal with Covid-19.

The Ombler paper is too vague and insufficient in scope to satisfactorily explain the government’s coronavirus response objectives and the inherent trade-offs involved in different response options. The paper does not clearly explain what ‘elimination’ means. It provides no quantifications of what elimination or suppression translate to in terms of infection levels or mortality rates. It contains no information on the assumptions the government has made in arriving at these objectives. It offers no insights into the economic and wider benefits and costs of alternative objectives and associated response options.

I fully appreciate that the government – like us all – is operating in a fast-moving situation, and in the swirling mists of uncertainty. I also appreciate the immense pressures that ministers and officials are under. I have no doubt at all that their intentions are sound and that they are working extremely hard for the good of the country. I commend them in that regard. However, the lack of clarity in the government’s objectives, the lack of a clear set of graduated response options, the lack of a well-defined exit from lockdown, and the absence of meaningful cost/benefit analysis of the different objectives and response options is unacceptable. It risks imposing even greater costs on the economy and community than those that have already been incurred. If we are not careful, it risks creating a ‘cure’ that is worse than the disease itself.

The government’s decision to impose a lockdown – and especially one as relatively comprehensive in scope as the one that has been implemented – imposes massive costs on the economy and is severely impacting the livelihoods of millions of people. The costs are not likely to be short-term. We will certainly not be looking at a short ‘V’ shaped recession and recovery. The contraction in economic activity will be very deep – without precedence in living memory. A significant degree of recovery could be expected once some form of normalisation occurs, depending on the response path adopted by the government, but the reality is that this is more likely to be an elongated ‘U’ than a “V’ shaped recession and recovery. It is unlikely that economic activity will get back to pre-pandemic levels for at least a couple of years. Many businesses will fail. Many jobs will be lost.

I am not at all suggesting that these economic costs are solely, or even principally, attributable to the decisions of the government. They are not. Much of the impact on our economy arises from the actions of foreign governments and the associated contraction of economic demand, with flow-on impacts to New Zealand. Nor am I suggesting that severe economic costs would have been avoided had the government done nothing. Taking no action to restrain the spread of infection would have had a serious impact on the economy and welfare of New Zealanders through sharply reduced economic activity. And, of course, taking no action would place the health system under an intolerable strain and create an unacceptably high level of mortality. Some form of temporary lockdown was unavoidable and is necessary if we are to keep infection levels and mortality rates within reasonable bounds.

However, had the government moved earlier than it did to close the borders, and had it applied a mandatory quarantine requirement on all arrivals, then it is very arguable that the scope of the lockdown could have been much less restrictive than it is. That, in turn, would have materially reduced the damage done to our economy and the community. Taiwan is a good example of a country that imposed tight border controls early, adopted broad-based testing and tracing, and achieved a level of infection that is currently around one third of New Zealand’s, despite Taiwan having around five times the population of New Zealand. Those measures meant that they did not impose lockdown on anything like the draconian scale adopted by our government. There are salutary lessons in that for us all. I certainly hope that, once this pandemic is largely over, the government (or its successor) will hold a commission of enquiry into the response actions to draw lessons for any future pandemic response strategy.

What is needed now is a fundamental review of the existing lockdown arrangement. Keeping the basics of it in place for the remainder of the one-month period is probably justified until testing reveals that community transmission of infection is very low. However, there should urgently be a reassessment of some of the parameters within it. There is considerable scope to relax some elements of the lockdown without sacrificing the ultimate objective. In particular, the government needs to reconsider the boundary between ‘essential’ and ‘non-essential’ services. The classifications developed by the government are clumsy, arbitrary and inadequately thought-through. A good example is the very odd decision that butcher shops and vegetable/fruit shops are ‘not essential’, despite the fact that they are significant providers of staple and healthy parts of our diets. The exclusion of hardware shops is another oddity, given that they provide a wide range of items that households typically need. Similarly, the arbitrary line between ‘essential’ and ‘non-essential’ building construction is very arbitrary and hard to justify. Lockdowns in these areas could have been avoided – and economic and social costs reduced – so long as strict social distancing requirements were applied. If strict social distance requirements are maintained in businesses, there is no logical reason to keep them closed. In that regard, it is worth looking at the parameters of the lockdown arrangements in other countries to see whether some sensible relaxations can be made.

Another matter that requires attention – urgently in my assessment – is the state of national emergency (which is separate from the lockdown itself). The declaration of a national emergency, with the associated extreme powers that accompany it, goes well beyond what was needed to ensure effective lockdown. It confers extremely wide powers on the Police, with very few safeguards. The Police have been given an extensive array of powers that New Zealand has not seen since the mid-20th century. Many countries have not found it necessary to do that. This aspect of the arrangements needs to be fundamentally re-assessed. There is absolutely no justification for this country to slide into some kind of ‘police state’. The Police should be acting within tightly specified constraints to enforce lockdown arrangements. They should require a court order to enter premises. And they should be subject to additional independent scrutiny during the lockdown period to hold them to account. The very wide powers under which the Police now operate are not necessary, not justified and are a serious affront to the cornerstone of democracy – our civil liberties. The state of national emergency should be ended. That it could be invoked so easily without something like a two-thirds vote in Parliament is an indictment of the way successive Parliaments have allowed such laws to exist. No government should have the power to declare a state of national emergency without specific authorisation from Parliament and without very close scrutiny by independent parties, such as the judiciary.

Equally worrying is the extent to which this government has allowed the Director-General of the Ministry of Health to call the shots on matters that go well beyond the proper jurisdiction and expertise of the Ministry. The sweeping powers currently vested in the Director-General or medical officer of health, under the Health Act, should not rest with unelected officials. The powers exercisable by officials should be subject to approval by Cabinet or at least a Cabinet committee, with appropriate transparency, and with regular review. As things currently stand, the declaration of emergency simply leaves the powers – extreme as they are – in the hands of a few officials, without even the need for the approval of the Minister of Health.

What is needed now is a comprehensive and transparent assessment and articulation of at least the following matters:

– The objectives of the response to Covid-19. The notion of ‘elimination’ is unrealistic and inappropriate. To my knowledge, such an objective has not been adopted by other governments. It comes with huge costs, and yet the government has failed to articulate what the benefits and costs of this objective versus alternative objectives are. An objective of ‘elimination’ is a bit like saying we want to achieve a ‘zero’ road toll. That could be achieved. But it would require the virtual banning of vehicles on the road or speed limits set to 30 kph or something equally absurd. We do not pursue a zero road toll because we all know that the costs of doing so far outweigh the benefits. Likewise, we do not design building codes to achieve a zero death toll in earthquakes. To do so would impose absurdly high costs on everyone – vastly disproportionate the benefits. Instead, we accept that some deaths in a severe earthquake are unavoidable and we calibrate the building standards to achieve a low but far from zero expected death toll. We apply cost/benefit trade-offs in many aspects of public policy, such as in the funding of cancer medicines, hospital funding, education funding, health and safety regulation, and banking regulation. What we need in the case of Covid-19 is a similar approach – i.e. an objective in terms of infection levels and mortality rates that can be regarded by society as acceptable, given the economic and wider trade-offs involved. We need to see much more comprehensive and transparent analysis by the government of the alternative objectives, and the benefits and costs of each.

– Exit from lockdown. There needs to be clearly articulated forward path for transitioning from the current lockdown to normalisation, in progressive stages. This needs to be informed by a cost/benefit analysis of different transition steps. The progressive move through to normalisation should be informed by indicators that are transparent to all, such as infection levels, percentage of positive test results from wide-sample testing, and community-linked infections. One near-term option – maybe in two weeks’ time – might be to move from lockdown to a combination of requirements that would help to keep infection levels to within defined upper limits, such as:

o continued mandatory social distancing;
o businesses to operate to a maximum number of persons per defined floor area;
o businesses to continue to encourage work-from-home arrangements where feasible;
o mandatory quarantine for all arrivals into New Zealand until a reliable quick-result test can be performed at ports of entry or until global infection rates are below defined levels or vaccines are widely available in New Zealand;
o ensuring that all health workers are regularly tested for coronavirus;
o limiting and screening of visitors to medical facilities, retirement homes, hospices and other places where there are cohorts of vulnerable people;
o encouraging those in vulnerable categories to self-isolate where practicable and providing them with assistance to facilitate that, such as food deliveries and the like; and
o comprehensive testing and tracing practices on an ongoing basis.

Regional variations in the progression from lockdown to various stages of normalisation will need to be considered, based on regional infection levels.

– Extended fiscal support. The sooner we can transition from lockdown to some form of normalisation, the sooner the economy can begin the gradual process of recovery. However, it is inevitable that many businesses, self-employed and employees will be severely impacted for months to come. The government’s support package helps in some respects. However, it is narrower in scope and less generous in quantum of support than the packages put in place in some countries, including Australia and the UK. There is a pressing need to reassess the support packages going forward, including by considering a higher-level of income payment for at least six months, based on the income level of the business/person that prevailed before the pandemic. There is plenty of fiscal headroom to facilitate this. But we need to be sure that any such measures are appropriately targeted to those most in need (based on loss of income and ability to self-sustain) and monitored; this is not a time for a scatter gun approach to fiscal support. Creating new job opportunities for those whose jobs and businesses are unlikely to recover for a long time, if at all, is imperative. Infrastructure spending provides on such avenue, and is already on the government’s agenda. However, this too needs to be subject to robust cost/benefit assessment, and done in a very transparent manner. Any fiscal outlays for infrastructure projects need to satisfy meaningful cost/benefit tests if they are to proceed.

– Central bank support. We have seen some sensible moves by the Reserve Bank in response to the coronavirus situation, even if some of the rhetoric from the governor has been questionable at times. The quantitative easing program will help to keep interest rates low and facilitate bank liquidity. The encouragement of bank lending to their customers, with the backing of a partial government guarantee, is clearly desirable. So too is the relaxation of the timetable for moving banks to higher capital ratios. However, more needs to be done. In particular, it would be desirable for the Reserve Bank to finally recognise that its unjustified capital ratio requirements on banks – extremely high by international standards – has been fundamentally mis-calibrated. It will exert a very unhelpful and economically damaging procyclicality on the banking system and economy by impeding the ability of banks to lend at the very time when we want them to do so. A 12 month suspension of the transition to higher capital ratios falls well short of what is needed. A much smarter move would be to suspend the proposed increase in banks’ capital ratios completely – for at least 3 years. That would give banks greater scope to lend than the 12 month suspension permits. It would also buy much-needed time for a fundamental re-think of what is, frankly, one of the most poorly thought-through and most costly banking supervision policies I have seen from any central bank. The Minister of Finance needs to take a much more active interest in all of this. This is where there needs to be a clear distinction between preserving operational independence of the Reserve Bank for the implementation of policy, as opposed to the setting of policy. In the latter case, the high-level setting of policy should be subject to much stronger oversight by the Minister.

Monetary policy also needs to be further considered. The Reserve Bank has ruled out any further change to the OCR for 12 months. Why on earth would it do that? No other central bank on the planet, to my knowledge, has said they will not be altering monetary policy settings for a further 12 months. No sane person would. In a situation such as this, policy settings need to be kept under constant review and adjusted where appropriate as circumstances change. In these circumstances, it is highly likely that a further easing of monetary policy will be needed as part of the package of measures to support a recovery in the economy. That includes a recognition that the OCR might need to be lowered further. Negative interest rates, while possibly not yet needed, should be further considered (with considerable caution) in this context. Again, the Minister needs to be far more engaged on these matters than he appears to be. Section 12 of the RBNZ Act gives the government the power to direct the Reserve Bank on monetary policy matters. Mr Robertson therefore has the legal avenue to take action if the government (advised by Treasury) sees the need to do so. Although one would not wish to see a trigger-happy intervention by the government, it needs to at least demonstrate that it is closely scrutinising the Reserve Bank and stands ready to intervene should it see the need to do so. The Reserve Bank needs to be under very much closer scrutiny than it is.

The supervision of the banking and insurance sectors also need to be strengthened. Greatly. The Reserve Bank has still not implemented recovery planning requirements for banks or insurers. They have still not adopted a conventional form of on-site assessments of banks’ and insurers’ risk management systems. They have no comprehensive assessment framework for banks’ and insurers’ systems and controls for risk management. They are behind the eight ball on much of what is needed from a supervision authority. The IMF assessed them in 2017 with what could be described as a C- grade. In effect, we have a standard of banking and insurance supervision in New Zealand that is akin, in some respects, to something I see frequently in third world countries. Much closer oversight is needed of the Reserve Bank to ensure that it does what it is paid to do. This is especially necessary now, given the high likelihood that banks and insurers will come under severe asset quality and cashflow strain in the months and years ahead. Proactive monitoring of early warning indicators, closer scrutiny of financial institution risk management and asset quality, and the preparation of contingency plans should be key elements in the Reserve Bank’s approach to its job. Instead, it continues to place emphasis on imposing draconian capital ratios on banks when they are not needed and will badly hurt our economy. And they continue to rely on the ill-considered ‘Open Bank Resolution’ policy for dealing with failing banks, which, if it were ever used, would be like throwing a lit match into an explosives factory. It is time Mr Robertson took greater leadership in the overhaul of the Reserve Bank’s capacity and policy direction in all of these areas. The current review, which is, perversely, being co-led by the Reserve Bank itself, is simply not good enough.

These are just a few issues for the government to be looking carefully into as they develop the strategy to respond to one of the most severe crises we have faced. We need to see a much more focused, thorough, transparent and consultative approach by the government on all these issues. The Opposition also needs to play a strongly proactive role in scrutinising and putting forward its own proposals for handling the coronavirus situation. Now, more than ever, we need a whole-of-Parliament leadership on the response to one of the most damaging crises of our time.

  1. Geof Mortlock is an international financial and economic consultant based in Wellington.