MPC

Once over fairly lightly: the Covid monetary policy review

Michael Reddell Adrian Orr, LSAP, MPC, pandemic

(No, two posts in two weeks does not foreshadow any sort of return to regular blogging – tempting as it has occasionally been at least for the pre-election period – but having written copious amounts on the Reserve Bank’s monetary policy, associated governance, and lack of serious accountability during and after the Covid period, I thought it would be worthwhile documenting some reactions to the report of the Independent Review of the Monetary Policy Response to the Covid-19 Pandemic which was released on Wednesday yesterday. And, of course, writing helps clarify my own thoughts.)

One of the (minor) odd features of the report was that it did not include the terms of reference given to the reviewers by the government when they commissioned it back in February. Interested readers had to go hunting for themselves. Here is a link to the terms of reference.

There were a number of weaknesses in the terms of reference. The very first purpose listed for the review was to “support accountability” and yet only the decisions of the MPC itself were in scope (not, notably, those charged with holding them to account, whether the Bank’s Board, The Treasury, or the (then) Minister of Finance). Given that the system, as legislated by Parliament, is supposed to balance operational autonomy for the MPC with meaningful accountability, it is a shame that the workings of the entire system over that period were not reviewed. Equally less than ideal was that the reviewers chose to focus solely on the committee as a whole and not on the roles, responsibilities, performance etc of individual members, executive and external.

And it was only when I went back and read the terms of reference yesterday that I was reminded of this.

It seems very odd for ministers to put a page limit on an independent report, and especially one into matters so complex and consequential (and, as it happens, costly).

There was a KC report into the some specific issues around the conduct of the previous FMA chair Craig Stobo earlier this year, which (without apparent page limit) ran to 45 pages. The first of the reports into the Mount Maunganui landslide earlier this year ran to 250 pages. And more directly relevantly, as part of the 2023 (broad) review of the Reserve Bank of Australia, one of the authors of this review (Orphanides) wrote the reviewers a background paper on the RBA’s monetary policy near the effective lower bound, and it – just a background paper – ran to 62 pages. Lars Svensson’s 2001 independent review of Reserve Bank monetary policy ran to almost 80 pages.

Who knows quite why the Minister of Finance imposed such a limit, which more or less guaranteed that a lot of issues would have to be skated over all too lightly. Perhaps it was the delays they experienced with coalition partners and then finding potential reviewers, but we’d probably have gotten a more substantively useful document had the reporting deadline been extended somewhat (no doubt beyond the election) and the reviewers left freer to elaborate.

Another odd feature of this review – as opposed to Svensson’s – was that public submissions were not sought. The reviewers talked to a reasonable range of economists (only, listed at the back) but, for example, did not talk at all to one of Orr’s most vociferous economist critics during the period. Nor, for example, did they talk to (then) ministers or their advisers, to FEC members, to (it appears) senior Treasury people during the period (including the then Secretary, who was a non-voting MPC member) or even to people who were on the Reserve Bank Board (charged with holding MPC to account, and recommending (re)appointments) through the period. These sorts of people should have been relevant even if only as those who had direct exposure to the Bank and MPC members, and how they thought and operated, throughout this turbulent period. (To be clear, I’m not complaining for myself: not only did I have a fairly long meeting with the reviewers but at David Archer’s request I provided some written material at the start of the process, mostly as pointers to real-time perspectives and analysis I had written during the Covid period.)

The reviewers also seemed oblivious to (or at least uninterested in) the issue of whether or not, and if so to what extent, people (expert and otherwise) may have lost (or, I suppose, gained) confidence in the Reserve Bank/MPC through the experience of the period, whether from the substance of their decisions, the outcomes, the way they communicated and engaged, or otherwise. It is all a bit odd, especially as both Archer and Orphanides have had exposure to the wider governance/legitimacy side of things, Orphanides as Governor (central bank of Cyprus, admittedly part of the least-acccountable central bank system on earth, the ECB) and Archer latterly in his senior BIS role and various papers he has written or co-authored – I discussed one of those here a couple of years ago.

Back when the review was first announced to report in September (having been promised for some years) there were some feverish people on Twitter suggesting it was all a political jack-up designed to embarrass the Labour Party weeks out from the election. There was even talk of “evil” Atlas Network connections. I thought that was pretty much nonsense (and said so), initially because of what I knew of the reviewers (I worked with/for David on several occasions over 20 years, and today we are both trustees of the Reserve Bank’s troubled superannuation scheme), neither of whom seemed the type to do anything other than articulate their conclusions freely and frankly (and neither seemed likely to be wanting future business/appointments from the New Zealand government). As it happens, OIAed documents revealed that the original intention had been for the review to be done and completed ages ago, but…coalition parties and finding credible reviewers added delays.

And whatever your personal opinion of the government(s) in office over the period, I do not believe there is much evidence that the government or its ministers can be blamed for the succession of decisions that led to such a costly outbreak of inflation and such large financial losses. The MPC is set up to have operational autonomy over monetary policy, which is supposed to mean that specific governments neither get the blame when things go wrong (MPC makes bad calls) or gets the particular credit when things go well. In practice it isn’t like that, of course, but such pressures are to be resisted. Operational independence becomes hard to sustain if politicians get tarred with all the blame (or even the credit) but have none of the decision-making authority. Sure, bad appointments can be made but – to take Orr as an example – while he was appointed by Robertson in late 2017 it was (and had to be) on the recommendation of the Bank’s board, who had been wholly appointed by the outgoing National government. No doubt Robertson was weak to have gone along with the Orr/Quigley 2018/19 blackball on appointing experts as non-executive MPC members, but in doing so he was acting on advice (and Treasury seems not to have pushed back on that advice). Did those mediocre appointees make a difference? I’m a bit sceptical (much as I wish it was otherwise) and of course the reviewers never even touched on the quality of those on the MPC.

Where politics does come into focus primarily is in the context of the so-called dual mandate added to the Reserve Bank Act in 2018. The reviewers clearly did not like that amendment one little bit (which could readily have been predicted).

That was, no doubt, music to the ears of the Minister of Finance (quoted in her press release) but the problem is that the report itself offers no analysis at all to support the suggestion that the statutory change made any difference to policy choices or outcomes. They never, for example, even mention of the line run several times by the former Governor that in his assessment (and he did chair the committee) the change had made no difference to decisions made over this period, and they never (for example) engage in even the simplest cross-country assessment (did countries with dual-mandate specifications come through this period with worse outcomes than countries that retained a simpler specification?). It is well understood that in the face of demand shocks, you get exactly the same recommended policy response with a sole medium-term price stability focus (what the Bank was required to focus on immediately prior to the law change), as with something like a dual mandate specification. And since (as the report notes) no inflation-targeting central bank was ever an “inflation nutter” faced with near-term supply shocks to prices – precisely because of the output and employment consequences – it isn’t clear how the authors themselves believe the law change changed outcomes.

As I’ve pointed out on plenty of occasions, the Bank’s forecasts through 2020 and the first half of 2021 typically suggested that if anything MORE policy stimulus was required, and that such stimulus would both raise inflation towards the target midpoint and lower unemployment towards the non-inflationary sustainable rate (because forecast inflation was low and forecast unemployment was high). Their forecasts were very wrong, but there is nothing the reviewers point to – and they had access to MPC members and presumably to the unpublished background papers – suggesting the dual mandate made a difference. They were, of course, constrained by that page limit, but must have been aware of the political sensitivity of the issue. It is an unfortunate omission, and while they might seek to defend themselves by noting that the terms of reference explicitly refer to “the objectives of monetary policy that applied at the time”, they were the ones who chose to open up the dual mandate issue (probably rightly in my view, because it is a question that should be asked, and investigated seriously).

I noted that there was no attempt at a cross-country perspective on whether the form of the mandate made a difference (and I suspect they knew there was little reason to think it would) but it is just an example of another significant weakness of the report. They were specifically charged with considering as background “relevant decisions made by comparable central banks” but there are very few specific mentions of other central banks at all, and no attempts to compare and contrast policy choices, initial shocks (that central banks faced) or inflation outcomes (again allowing for things like different shocks – eg gas prices were to matter vastly in Europe in 2022, but not all in New Zealand). There is some reason to think that our Reserve Bank may have done worse than many (as I have long pointed out, and as more-recent Reserve Bank pieces note, we are estimated to have had probably large positive output gap – measure of economic overheating – of any advanced economy), but equally it is fair to point out (and the report never does) that central banks in most (but not all) advanced countries made very similar errors – notably forecasting errors – to those made by our Reserve Bank. On the one hand, that is some (modest) defence – it would be worse if ours had been uniquely bad – although on the other, each central bank takes on responsibility for outcomes only in its own country, and each has to be accountable for those national outcomes.

It is also puzzling that the report never looks closely at private sector, or implied market, views of the outlook for New Zealand inflation or required monetary policy. There is simply a parenthetic reference largely dismissing the fact that those views were very similar to the Bank’s (on grounds that the Bank’s forecasts can influence outside forecasters’ views). But when private forecasters and commentators think a central bank is getting things very wrong, they tend to say so (even if they also need to guess what the Bank will actually do). It is less bad when the MPC makes the same mistake as people operating in the private sector, with lots of money at stake, but……private forecasters, informed commentators, and hedge funds etc aren’t responsible for NZ monetary policy and inflation (or thus to the wider public at all), while the MPC is. In fact, the review is sometimes reluctant to even assign responsibility (on the very first page we are told, abstractly, that “mistakes were made”, but not that named individuals who assumed voluntarily the responsibility and prestige of MPC appointments themselves made those mistakes (here and abroad). The report is very light indeed on any serious form of accountability (including, for example, never once – in the body of the text – mentioning the names of those involved).

Incidentally, one wonders if journalists have sought comment on the report from those who were MPC members during the period. My guess is that they will be reasonably happy with it, to an extent they probably should not have been able to be.

They get off rather lightly, both individuallly and collectively. More than a few points are just never developed, Take, for example, this

And that footnote? “One of the reviewers, Mr Archer, does not agree with this statement.” There were, after all, only two reviewers (so, for a start, how did they decide whose view got in the main text and whose in the footnote?), and this is the only highlighted difference between them, and yet there is no sign of what evidence or reports they each used to reach a view on this quite significant issue (on which Archer has had strong documented views for years). They seem to resolve to agreeing on the abstract (“institutional arrangements” doing “enough to encourage diverse perspectives”) without serious analysis of what actually happened in the specific, very costly, period of policy conduct they were asked to review.

And while there are abstract and general issues worth considering, and certainly in any committee constituted as MPC then was, it is pretty extraordinary that none of the specifics around individuals, notably the Governor, are engaged with. Orr has had a reputation for too often having been intolerant of dissent or challenge, whether internal or externally-sourced. And during this period he was cycling through senior managers, including those directly associated with monetary policy. The able Deputy Governor had apparently had enough and announced he was leaving, only to have his employment summarily terminated a few weeks early, the Chief Economist through the period seemed pleasant but not really up to the senior role and seems to have found it best to leave, and then of course late in the period under review an utterly unqualified (for MPC-type responsibilities) new DCE responsible for macro matters was appointed. In a committee required by law to have a majority of internals those people, and sets of circumstances, don’t sound like a mix that would have produced optimally open debate and mutual challenge. Committees don’t exist in the abstract, but with concrete individuals, with their personalities, dispositions, incentives, and so on. Perhaps it really was all okay, but the reviewers make no serious attempt to engage on the issue.

There isn’t even any reflection, anywhere in the report, on the fact that throughout the entire, very challenging, Covid period there was not one dissent recorded, ever (and while consensus was formally encouraged, votes were never prohibited, nor the clear expression of an alternative view). My bias is to the agree with Archer’s dissent, but….they had the opportunity to gather and report evidence from inside, and yet they seem to have chosen not to do so.

Perhaps in a similar vein, there is nothing in the report about the extent of external engagement, or otherwise, of MPC members during a period of extreme turbulence and great uncertainty. There were barely any serious speeches through the period, almost no external engagement by external MPC members, and little or no sign of any systematic attempts to engage with the uncertainty by, for example, hosting workshops or conferences to try to open themselves to alternative perspectives or explore the uncertainties they (and everyone else) faced. And, of course, because for example the external accountability stuff was out of scope, there is nothing about the frosty way in which the Bank engaged with any challenge or scrutiny at FEC. None of it suggested a “learning organisation”, an open one, or one that recognised the need to maintain its legitimacy and the centrality of accountability.

Not all punches are pulled. It was good to see the review highlight how extraordinary it was that nothing had been done before 2020 to ensure that banks’ systems etc could cope with negative (policy) interest rates (having had years of notice of the issue, and having themselves expressed in public the view that negative rates were likely to be a better tool than large scale asset purchases. Had they got onto that earlier – even had the new MPC raised concerns when it was established – it is likely the MPC would never have engaged in such large scale, risky, and (as it turned out) very costly LSAP purchases. Billions of dollars wasted for a failure by the Bank to have been suitably prepared for a foreseeable threat (makes MBIE’s technology project woes seem cheap). The Taxpayers’ Union may not be flavour of the week, but in their inimitable style they called out the waste.

But this is precisely where the official independent review gets weak. They suggest that the initial LSAP purchases were just fine (market stabilisation and all that), but don’t ever bother to engage on whether those RB purchases made any difference (to a temporary market liquidity crisis centred not here but in US Treasuries and where the Fed itself was intervening directly), or as to why once markets did settle profits weren’t quickly taken. More concerningly, there is no serious analysis of the effectiveness of the more-sustained LSAP purchase process that followed. They, fairly, note that to the extent there was much stimulus it proved, with hindsight, unwelcome (since inflation blew out) but never engage on the question of how much effective macroeconomic stimulus there actually was in the specific context of New Zealand. The financial losses are never quoted, and there is no attempt to engage or review with the claims, as recently as late last year, from the Reserve Bank that really it was all fine, and perhaps even net positive for the Crown. Without having done (or reported) any of that sort of analysis, they blithely suggest that there is a continuing role in the arsenal for LSAPs (and actually suggest legislative changes to remove some possible future roadblocks). And, on the other hand, despite those comments on negative interest rate capability earlier, there is nothing at all about the desirability of work to ease the remaining ELB constraint. Perhaps the reviewers think that would be a bad idea, but they don’t say, or offer any analysis. As it is, the OCR is about 350 basis points from the effective lower bound, and typical past cycles have involved 500 points of easing.

They also pull their punches around the Funding for Lending programme. They seem, reasonably, sceptical of the case for having introduced it (although, to be fair, it wasn’t completely inconsistent with their macro forecasts at the time) but never touch on the extraordianry way they went on providing crisis-support (cheap funding), exacerbating their OCR challenges long after any need for macro support had passed (claiming they were somehow “bound” – legally or morally was never clear, neither at all robust – to keep on).

Another area where I’d be critical of the report is around the initial monetary policy stimulus. The reviewers go to some lengths to portray the monetary policy approach from May to later in 2020 as reasonable given the forecasts the MPC was using. But in doing so they tend to treat the forecasts as a given, handed to the MPC by other people, when the forecasts themselves are the collective views of the MPC itself. They are certainly advised and supported by staff, but recall that the MPC at the time included the Governor and three other senior internal economists: the forecasts (or “baseline scenarios” as they were being called for a time in 2020) cannot be very meaningfully separated from the policy calls. In each case, each decisionmaker was applying their own “model” of the economy and of how the macroeconomics of the shock was going to play out, and then – given the Remit – how best policy should respond. MPC members had, certainly, to work with the initially limited data they had, but much more important in this case is that they were – again with hindsight – all clearly using the wrong models to think about how pandemic macroeconomics was going to play out (demand vs supply effects for example). This is a point that is simply never touched on in the report, even though it was (arguably) the single most important failing, not just by the Reserve Bank MPC but by macroeconomists around the world, in central banks and out. Perhaps we can call it pardonable to some extent – after all, it was a completely unknown sort of event – but it proved to be a huge and costly weakness. But also idiosyncratic.

Had we (they) properly understood the pandemic macroeconomics, and taken account of what fiscal policy was doing (as the Bank in fact did, so this isn’t the main issue), there would have been a strong case for the OCR never to have been cut in March 2020 and probably to have been raised very quickly, at least by the time the first successful lockdown was over. But again, the reviewers never engage with that sort of thought experiment, and they show no sign of having used their vast experience to reflect on why it was that the Bank (and so many others) misunderstood the economics. (I don’t purport to have a compelling answer either, but it was the root cause of what went so badly wrong later.)

Partly as a result, the report ends up being too inclined to absolve the MPC of responsibility for the mess (boom and bust, large unexpected transfers of purchasing power). If what was done initially was reasonable (“praiseworthy”, “rapid”, “innovative”, providing a “timely and much-need boost” [the latter as if lags are almost instant, and as if the aim of policy in March 2020 had not been to markedly shrink economic activity, temporarily]). And so the reviewers end up more or less buying into a line, run now by the Reserve Bank itself for several years, that really, while of course they should have started tightening a bit earlier, really it either wouldn’t have made much difference or would have done so only at untenable economic cost. The reviewers devote a lot of space to a little modelling exercise the Bank put out last year, suggesting that if they started tightening in late February 2021 with the goal of keeping inflation always at 3 per cent or less, it would have done huge economic damage (it first went through 3% in the June quarter, centred on mid-May). Well, of course, not only does no one thinks that monetary policy works with that short a lag, but….the bigger issue is why so much easing had been done in the first place. (I’m not suggesting the MPC members themselves deserve huge criticism for those March 2020 calls but….they did have quite the wrong model, and it was the source of what followed, the aftermath of which we are still living with.)

This has become a very long post. I want to finish with just a limited number of other specific points:

  • it is very odd that throughout the entire paper there is never a single reference to a core inflation measure (or concept). Now it is, of course, true that the inflation target is specified in terms of the headline CPI, but Remits and (previously PTAs) have always enjoined the Bank to “look through” temporary or one-off price disturbances, to extent consistent with maintaining medium-term price stability. Thus, central banks rarely respond directly to, eg, sharp rise or falls in petrol prices which can make a big difference to near-term headline inflation. In this case, for example, the report emphasises the large fall in the CPI in the June quarter 2020 (quoted in American-style annualised terms), while never noting the huge role that petrol prices played – you may recall world crude prices briefly going negative in a quarter when not much driving or flying was happening). The approach they take simply doesn’t engage with the practical and real challenges actual central bankers faced during that period (and thus one should be hesitant about their recommendation that “near-term inflation signals may be more robust than forecasts at the policy horizon – I’m no fan of medium-term forecasts, but the operative word there has to be “may”, in some circumstances.)
  • I agree with their broad approach to fiscal policy (consensus assignment remains appropriate and formal coordination is unlikely to be wise or called for) but am a bit hesitant about the suggestion that in some circumstances the Bank should build into its forecasts (or scenarios) its own view of what a government is likely to do. In terms of thinking about risks, there is probably some validity to the point, but I cannot see how it could be viable to include speculative numbers in published forecasts (it sets up potential for political fights in which the Bank is unncessarily caught in the middle).
  • Recommendation 11 proposes that “the Bank should allocate sufficient resources to support the effective functioning of the MPC, including policy, research and analysis to support diverse perspectives in policy deliberations”. There is no elaboration of this point in the body of the report (one of a couple of examples suggested the final process ended up rather rushed, another being around reviewing/altering the Remit), and I’m not fully sure what they have in mind. If, as I initially thought, they mean providing dedicated analytical resource to the external MPC members – as, for example, happens at the Bank of England – I strongly agree (otherwise the Governor has a stranglehold on what the Committee sees). But reading it again, it is possible they had something else in mind.
  • Recommendation 12 states “Sections 121 and 208 of the RBNZ Act create risks to monetary stability that should be reevaluated. The RBNZ Board should note have the authority to refuse to implement the MPC’s monetary policy.”. I want to devote some space to this because the Minister’s response to the report states explicitly that this “warrants further consideration and [the government] has commissioned further policy work from Treasury. Section 121 relates to powers of the Board, but actually (as the Report notes) section 208 relates to powers of the Minister, who can direct the Bank to “take all reasonable steps” to maintain a minimum level of capital specified by the Minister and have regard to the Minister’s expectations as to the Bank’s financial risk management. The report rather cavalierly suggests that “it is advisable to seek solutions that are implementable well before the Bank is required by unfortunate circumstances [emphasis added] to take on large financial risks to protect the New Zealand economy from from a deflationary shock”. This is melodramatic stuff, that not only does not engage with the likely actual effectiveness of either future LSAPs or big fx interventions, but more importantly does not engage with the guarantee powers the Minister of Finance already had under the Public Finance Act. To the Bank’s credit, it did not do the LSAP at its own risk (our risk imposed on us by them) but went and sought an indemnity from the Minister of Finance. It cannot be desirable that unelected officials, barely substantively accountable, can debauch the public finances without seeking the consent of the Minister of Finance. Extreme times call for political responsibility (including because, as demonstrated over 2020, with the best will in the world economists get thing badly wrong, and yet politicians are accountable). So I would urge The Treasury and whoever is Minister after the election not to be swayed by the these reviewers into re-establishing unlimited scope for the MPC to impose financial risks.

Overall, it is a fairly mixed bag of a report. If I scroll through the 12 formal recommendations I agree to a greater or lesser extent with most of them, although I think they probably tend to overstate what difference they might make in extreme unknown scenarios of the sort faced in 2020 and 2021. The recommendations are forward-looking, which is fine and has a place (including in the terms of reference they had to work to) but where the report is much weaker is on the backward-looking analysis and critical review. It gives passes to the MPC that aren’t really deserved and thus avoids some of the more difficult challenges of making sense of the period. It also tends, too much, to the purely technocratic – issues inside the Bank and the MPC – to the near-complete exclusion of the wider issues around legitimacy, accountability, and the confidence the public and markets might have in those who put their hands up to be entrusted with such huge delegated power.

Yet more “pretty (il)legal” stuff from the Reserve Bank

Michael Reddell MPC, Reserve Bank Board, Rodger Finlay

A month or so ago the Reserve Bank announced the appointment of a new Assistant Governor (a deputy chief executive) responsible for its financial stability functions. That must have prompted a Bloomberg journalist to ask what was happening to the vacant position on the Monetary Policy Committee (given that, previously, Geoff Bascand and then Christian Hawkesby as holders of that role had also been on the MPC). Later that day a story appeared which had this snippet (which someone had sent me)

I gave it a bit of attention at the time on Twitter but had seen no follow through.

So I was pleased to see an article in the Herald this morning reporting an interview that Jenee Tibshraeny had done with the Governor where she asked Breman just what was going on. And got some not-very-satisfactory answers, that don’t put the Governor or the Board (or perhaps the Minister too) in a very good light, and (incidentally) suggests that the Bank was not being entirely straight (to say the least) with Bloomberg when they asked last month.

The Reserve Bank Act is pretty clear about MPC appointments. The Minister of Finance appoints MPC members, but does so (only) on the recommendation of the Bank’s Board. The Governor is a member of the board, but formally also has to be consulted in her role as chair of MPC before recommendations are made in respect of internal members (people who directly work for the Governor).

There is no minimum term of appointment (which could be a weakness in some circumstances, but the law is fairly new and is what it is).

In the short history of the MPC, a temporary appointment has already been made once, back in early 2022 (after the chief economist had left and before another permanent appointment was made to that role)

And, as importantly as all this, the Act is specifically clear that there must be a majority of internal members on the MPC

NB: In the event of a tie the Governor does have a casting vote, but this provision is explicitly about members not about votes.

Again, one can debate the merits of requiring an internal majority, but it was a choice Parliament made only quite recently (within the last decade). And if someone dies, or resigns with no notice, vacancies can’t be filled overnight (presumably the point of the bit in brackets at the end of 100(3)), but……there has now been a vacancy on the MPC since Adrian Orr resigned (his resignation having taken effect from 31 March 2025). That is now 16 months ago.

The Governor seems to have been totally at sea when Tibshraeny asked her what was going on. She is quoted as saying that “I don’t know if it’s possible to have a temporary position. That’s apparently what’s happened before [see above] so I’m just looking into that”.

But she has been in the role of eight months now, she chairs the MPC (so you might suppose she’d have made herself familiar with the statutory provisions, especially when leading changes to make voting more of a thing on the committee), and had apparently been comfortable with her spokesperson a month ago telling Bloomberg she had no intention of seeking to fill the position before the election.

Now, even the comment she had had provided to Bloomberg was at best misleading (since the responsibility for recommending MPC members rests with the Board – chaired by Rodger Finlay – not with the Governor, let alone the Minister), but it also seems quite at odds with what she was saying to Tibshraeny when interviewed the other day.

And what on earth did the election have to do with it? There is a well-understood convention (repeated in this Cabinet Office circular for this election) about not making significant permanent appointments to commence in the period starting from three months prior to the election. (Thus, in the Reserve Bank case, back in 2017 there was an – almost certainly illegal – appointment of an acting Governor because a new permanent Governor could not be appointed to start in the weeks either side of the election.)

But the pre-election window begins this week, and the MPC vacancy has existed since March last year. Christian Hawkesby left his job (as Acting Governor and substantive head of financial stability) eight months ago, and even that permanent appointment of a Head of Financial Stability was announced more than a month before the pre-election window. And, as the Governor (and Board) presumably now appear to know/remember, temporary appointments (say, 6-12 months) are perfectly possible in this case (and, in any case, since it is the appointment of an internal – not appointed by the Minister to the day job in the first place – it was difficult to see how an MPC appointment was likely to be particularly politically contentious).

The Governor appeared to be caught on the hop in her interview last week (pretty bad when the Bank had already made those comments to Bloomberg) because the Herald article suggests that after the interview a “Reserve Bank spokesperson” was sent out to tidy up after the Governor.

Of which a number of things can be said:

  • The Board has no authority to simply leave a vacancy indefinitely (the law explictly requires an internal majority),
  • The appointment of a permanent Governor was made in September last year (and at the same time it was announced that Hawkesby was leaving the Bank),
  • There was nothing, at any stage, to stop a temporary appointment (whether of the chap who was filling in for Hawkesby as head of financial stability or – since he was a lawyer – some other senior economics/markets person),
  • The person who was acting as head of financial stability was appointed to the permanent role a month ago now. Either he could have been appointed to the MPC straightaway (eg the Minister confirm it was her intention to so appoint) or, very belatedly, a temporary appointment could have been made. In fact, the Bank told Bloomberg they weren’t looking to make an appointment now, but now say “there is a process underway”.

The Minister of Finance is reported (briefly) in the article, noting that “it has been the practice for successive governments to exercise restraint in making significant appointments in the pre-election period, which begins on 7 August”. Which is factually correct, but largely irrelevant in this context given a) the vacancy has been there for 16 months, and b) there is both authority and precedent for a temporary appointment. You have to wonder, though, what Treasury, paid as official monitors of the Reserve Bank, had been doing all this time about simple matters like ensuring that the Bank and the Board complied with the law, putting up nominations enabling the Minister to make an appointment.

Does it matter greatly? Perhaps at one level, not so much. But the law isn’t just there as a suggestion but as a set of obligations and responsibilities, and the Board seems to have deliberately flouted one of its responsibilities in this case. Laws imposing duties and responsibilities on government agencies need to be observed punctiliously. As it is, one recent OCR decision was made only by the Governor’s casting vote, a vote she would not have needed to (or been able to) deploy had the Board and the Minister done their job and ensured an internal majority of members. There have been all-too-many “pretty legal” things from the Bank and its Board in the last few years (whether misleading Parliament, misleading the public, OIA obstructionism, knowingly blowing the previous Funding Agreement spending limits, purporting to consult on proposed physical cash requirements which it had no legal authority to insist on, and so on). And misleading journalists – as appears to have happened on this issue with Bloomberg – isn’t exactly a way to build and restore confidence in a troubled institution.

On the substance – the vacant MPC seat – we are left wondering what is going on. Presumably Angus McGregor is not going to be appointed (could easily have been done or signalled already if he was). His predecessors had been on MPC but then they’d all had an economics background and he’s a lawyer. There don’t seem to be that many obvious current internal possibilities – one might be Adam Richardson, now director of financial markets (who’d been the acting MPC appointee back in 2022). Or perhaps there are other plans. It is still hard to believe that the Governor has done nothing about Karen Silk – surely the most underqualified central bank DCE responsible for macroeconomics and monetary policy anywhere in the advanced world – and perhaps there are plans afoot. Perhaps she is contemplating hiring someone as (eg) Adviser to the Governor with the strong New Zealand macro perspective that neither she nor Silk has? We don’t know but the current situation is unsatisfactory – the board, apparently with her acquiescence, is wilfully choosing to ignore the legal requirements, and a journalist (and thus the public) seems to have been knowingly misled as recently as a month ago. And, as recently as a few days ago, the Governor herself was unable or unwilling to give a straight answer to what should have been a pretty straightforward questions (about an unsatisfactory situation).

And, if I have been inclined to absolve the Minister of primary responsibility, she has formal responsibility for the Bank, she has the full resources of The Treasury at her disposal, and the Board chair was personally appointed by her (and just last week she appointed a deputy chair

Yeah right.

An MPC member speaking

Michael Reddell MPC, Transparency

For the first six years of the newly-created statutory Monetary Policy Committee the external members were conspicuous by their silence. While their charter (agreed with the Minister of Finance) allowed them to speak openly we heard almost nothing from any of the three of them (and of course no disclosure of views or thinking in the minutes of the MPC either). The contrast with models like the central banks in the United States, Sweden, and the UK was stark.

This year there has been some sign of progress, albeit only from one of the members (whose approach may not be terribly popular with his MPC colleagues or – though they have very limited say – the Reserve Bank Board). The member in question is Prasanna Gai, a professor of macroeconomics at the University of Auckland and someone who spent the early part of his career at the Bank of England (and has had various other central banking involvements since). On paper he appears by far the strongest of the externals (and probably more so that at least of the internals), even if there is something less than ideal about having someone serving at the same time as an MPC member and on the board of the Financial Markets Authority. We also know nothing directly about his view on the state of the economy or much about his thinking about policy reaction functions etc, although we can deduce from his two recent speeches that he is probably the key player in the rather heavy (over)emphasis on uncertainty from the MPC in the last six months.

I wrote a few months ago about Gai’s published views (to be clear, from before he became an MPC member) on how Monetary Policy Committees should be functioned and governed. That post was shortly after his first speech

But in the last few weeks there have been two more sets of (fairly brief) remarks, and things have improved somewhat. In their email notification of upcoming speaking engagements, Bank management has noted that the two events were coming up, and the texts of the two sets of remarks are on the website (although you get the impression the Bank might be unenthused because they have not emailed out links, leaving people to remember to go and look for them, or otherwise to stumble over them).

The first of those sets of remarks was about uncertainty (mostly in the light of the US tariff situation), delivered to (it appears) an academic audience in Melbourne a few weeks ago. In those remarks, which were expressed reasonably abstractly, Gai could most reasonably be read as suggesting that the trade policy uncertainty was having a material macroeconomic effect on New Zealand and that fairly bold monetary policy responses were appropriate. I put some comments about those remarks on Twitter, which are in a single document here

tweet thread on Prasanna Gai’s uncertainty remarks

While welcoming the fact of the speech, I was a bit sceptical of the argument.  But then the good thing about policymakers laying out their thinking is so we can scrutinise, challenge, and engage with those arguments.

Gai’s most recent set of remarks was to some forum run by the Ministry for Ethnic Communities (one of those entities whose continued existence casts severe doubts on government rhetoric about cost-savings and lean efficient bureaucracy – but that isn’t Gai’s fault).   There is more about uncertainty (in fact the remarks carry the title “Navigating the Fog – A Tryst with Economic Uncertainty”) although he takes the issue rather wider than the US tariffs stuff.  I still wasn’t entirely persuaded, especially by the sentence I’ve highlighted.

Faced with the unknown, and already in the midst of a downturn, economic actors hesitate, delay investments, and reduce engagement. We see this in NZ surveys like the QSBO. Paradoxically, this cautious behaviour, while individually sensible, creates a self-fulfilling cycle. Caution reduces economic activity, which deepens uncertainty, leading to even more caution. Economists call this the “uncertainty trap.” It locks the economy into stagnation. By avoiding risk, we inadvertently create the very uncertainty we seek to avoid. This cycle of inaction feeds into a broader macroeconomic malaise, where growth stagnates, prices become sticky, opportunities are missed, and innovation slows. When everyone waits, nothing moves.

No doubt we can all agree in wishing away a fair amount of avoidable uncertainty (probably most people in New Zealand would count the US tariff uncertainty – regime uncertainty from day to day – in that category) but uncertainty is a part of life and always been.  Perhaps it is greater in the short to medium term in democracies and market economies (absolute dictators can, although perhaps rarely do, provide greater certainty about some things over those horizons) so it seems a bit odd to suggest that people dealing with uncertainty is somehow problematic, or even creates uncertainty itself.    There is more stuff along these lines in the remarks.

But my main interest in this set of remarks was the section headed “What Can Policymakers Do?”.   He seems to think they can and should do a lot.   I suspect he is far too ambitious (including on fiscal policy where he observes “At the same time, fiscal policy must step into its own strategic role — by investing through uncertainty and setting the stage for deep microeconomic reform. Where private actors
hesitate, public action creates space — catalysing investment in innovation, skills,
infrastructure, and housing8. And, like monetary institutions, fiscal policy must be guided
by intellectual clarity, coherence, and long-term commitment.”)   

But again, my main interest is monetary policy.    He writes

In other words, central banks must set the tone for the economic conversation. Their words, emphasis, and structure condition how millions of decisions unfold. They must illuminate the path ahead, not merely comment on the prosaic.

Transparency – describing the macro-landscape by publishing monetary policy statements and modelling scenarios – is helpful, but not enough. What really matters is the capacity to guide expectations. This requires intellectual rigour, deep technical expertise, and the agility to challenge conventional thinking. How we think, rather than who said what, is the essence of credibility when uncertainty is high.

It is important to remember that central bankers wield unelected power7. Direct engagement—through public speeches and testimony before Parliament—brings clarity to uncertainty. Speaking directly about how we think, and what would change our minds, provides analytical accountability that complements procedural channels that chronicle debate – such as meeting records and monetary policy statements. When we open the doors of our policy reasoning to scrutiny, the fog clears and trust builds. 

There is good stuff there (and in that footnote 7, which I’ve not reproduced, he refers readers back to the paper he wrote pre-appointment (see above), observing “some of those lessons are relevant for New Zealand”).

He is clearly laying down a marker here advocating for a materially greater degree of transparency from the New Zealand Monetary Policy Committee. The incoming Governor – about whom I will probably write later this week – went on record at her appointment announcement as favouring greater monetary policy transparency (unsurprisingly given that the Swedish central bank has substantively the most transparent monetary policy decision-making etc model anywhere). But you have to suspect it is going to be an uphill battle in an institution with a deeply rooted culture (not specific to any particular Governor) of favouring transparency only when it suits, whereas real transparency and accountability are about openness even when it hurts).

I’m all in favour of much greater transparency (and the new Bank of England MPC model looks as though it could provide a good model). But there is an important distinction between transparency that makes a difference to macroeconomic outcomes and that which largely supports heightened accountability. Perhaps the two should overlap but they rarely do. It isn’t obvious, for example, that the central banks that are much more open, including about differences of views and models among members, or whose MPCs had deeper stores of technical expertise among their membership, did any better at all – in terms of inflation outcomes – through the dreadful inflation resurgence of the early 2020s than, say, the Reserve Bank of New Zealand’s MPC did. But in those countries with greater transparency we know a lot more about the views of individual members and their thought processes and are thus better positioned to assess whether perhaps some are less guilty than others. Individual accountability is, thus, a serious possibility.

My impression is that Gai is much more optimistic about the scope for enhanced transparency to make a macro difference. In a sentence before the block of text I quoted he says “when uncertainty is high and the channels of transmission are weak, communication takes on greater importance”.

Well, perhaps, but only if the central bank has something meaningful to say, otherwise it just ends up as cheap talk. No doubt we can all agree that central banks should always and everywhere indicate that if (core) inflation looks like going off course they will respond accordingly. That is a (much) better place than we (advanced world fairly generally) were in 50 years ago, but it isn’t really much help in grappling the high levels of uncertainty firms and households actually face at times, most of which isn’t about monetary policy. Central banks can’t add much of any use on where US trade policy may go, let alone how other countries might or might not respond. Or whether (let alone when) the AI stock market surge will prove to be a bubble that will burst nastily. Or whether China will invade Taiwan. Or, to be more pointed and winding the clock back five years, what would happen to policy regimes around Covid (lockdowns, border closures etc) – surely the most extreme, perhaps inescapable, example of policy uncertainty in recent times. Central banks generally couldn’t get the macroeconomics right even when the policy uncertainty began to diminish (see inflation outcomes and generally very sluggish interest rate responses). The ability to “illuminate the path ahead, not merely comment on the prosaic” seems very limited in practice in most circumstances. (I think back, for example, to the early days of inflation targeting in New Zealand: we aimed then to be very transparent, and had a Governor who was a strong retail communicator, and yet if we consistently held out a vision – sustained low inflation and a fully-employed economy – we had no certainty to offer as to what it would take or when the payoff would be seen. Bigger central banks that went through similar dramatic disinflations generally found themselves in the same boat.)

But to conclude, it is great to have an MPC member putting his thinking on record (even in this case it is still mostly about processes/structures than the specifics of how the economy and inflation might unfold). Perhaps some journalists might ask him about the speech and seek to tease out his ideas. We all benefit when those wielding power – unelected power in this case as he rightly notes – put their ideas out for information, scrutiny, and debate. Perhaps some other MPC members might think of taking up speaking opportunities that come. Perhaps Gai, who has dipped his toe in the water with a couple of brief sets of published remarks, might consider a fuller version at some point?

Reserve Bank meeting the PM

Michael Reddell MPC

There has been a flurry of coverage in the last couple of days after the Prime Minister told an interviewer yesterday not only that he thought the Reserve Bank should have cut the OCR by more/earlier, but that he had made this point to the Governor in a meeting with the Bank before the final OCR decision was made last week.

While I don’t think it is usually particularly wise, in general I don’t have a problem if the Prime Minister or Minister of Finance want to comment critically on particular OCR decisions or on the MPC’s handling of monetary policy. We give operational independence to the MPC for good (if arguable) reasons, but they aren’t a separate arm of government – so it is different than ministers criticising judges – and they are human and, as we’ve seen again in the last five years, they make mistakes, sometimes bad and very costly ones. The MPC is supposed to be accountable and ministers are our representatives and the ultimate vehicle for the exercise of that accountability. Back when core inflation was persistently undershooting the target last decade, ministers were eventually heard to grumble in public from time to time even about that poor performance.

It is another matter to be holding private meetings with the Governor (or other MPC members) and expressing your views – whether as PM or Minister of Finance – perhaps especially in the days immediately leading up to a particular interest rate decision. There is no public visibility – or, thus, accountability – for those comments, and Luxon was very unwise to have done what he said he did. That is particularly so at present when a) the Governor is on a short-term temporary contract and is bidding to be made the permanent Governor, and b) when things around the Reserve Bank have been so tangled and murky all year (and when, despite attempts to deny it, it seems clear that the capital settings review was mainly driven by pressure from the Minister of Finance). This is a time when people should be bending over backwards to ensure that they are behaving with propriety, and that there can be no question (or appearances) of anything else. I don’t really suppose that in his meeting the PM thought he would influence the MPC – maybe he was simply sounding off without thinking too hard – but those of a suspicious mind might reasonably worry that it was otherwise. Of course, in law the government cannot direct a particular OCR decision, and the Governor himself has only one of six votes on the MPC (and three other votes are held by externals who owe no particular deference to him).

It seems that these conversations occurred at a meeting that, in one form or another, has happened for decades in the day or two prior to each Monetary Policy Statement. I’ve been out of the Bank for 10 years now but my impression is that things are not very different now than they were in my day. The practice would be that at the end of the “forecast week”, when the Bank’s or MPC’s economic view had crystallised, the material from that forecast process would be used to prepare a short note for the Minister and Prime Minister. In my day, Treasury drew on Bank material to prepare that note, which included possible angles for questions that ministers might use to ask the Bank. But that note never touched on the OCR itself, and neither did the discussion in the meeting that followed (usually involving the PM, MoF, the Governor and chief economist, perhaps someone from Treasury, and perhaps some ministerial advisers). In all my years in the Bank I often heard reports back from these meetings, from the Governor or chief economist, and it was clear that boundaries were pretty consistently respected. What the Bank might do with the OCR was pretty much out of bounds (and in my day, OCR decisions were – formally – purely those of the Governor himself).

If the structure has remained much the same – and I gather the meeting in question happened last Tuesday – there is nothing very wrong with that model, except that the Prime Minister appears to have crossed the line, in ways that probably should prompt a rethink as to whether such meetings prior to the MPS are still appropriate. A model can have been around for decades, and appear to have worked okay, with people respecting conventions, but sometimes particular episodes prompt an overdue rethink. It was like that with the lock-ups the Bank used to hold for analysts and media immediately prior to MPS releases – which seemed to work okay until it became clear that security settings were weak and one media outlet was actually passing information from the lockup back to their office (something I got caught up in when their office passed information on to me, since I was due to be interviewed by them on the MPS later that morning). There are no more lockups (and nor should there be).

Should the Governor and an acolyte or two really be meeting with the Prime Minister and Minister of Finance immediately prior to MPS/OCR decisions? It may have worked fine for a long time, but it isn’t a good look, and on this occasion the PM has crossed the boundary, and it is hard to restore confidence now that the meetings are widely known of, and the PM has done what he says he did. There is no particularly compelling reason for the meeting. The Treasury has a non-voting observer on the MPC, and if there is any case for a briefing on the economic outlook before the release surely that person could arrange for the briefing. But it isn’t really clear that such a prior briefing is needed at all (and it has always been rather artificial for the Bank to be discussing the economic and inflation outlook without also discussing the monetary policy calls). Moreover, it isn’t the days of the single decisionmaker, and external MPC members in particular might reasonably think that it is time to rethink the approach (not just while the appointment of a new Governor is dragged out – will be six months next week since Orr left – but in the future more permanent state with a new longer-term Governor). Were I in Hawkesby’s shoes, I’d be thinking pretty hard about the risks and returns to those meetings anyway. There is plenty of time after releases and well clear of the next decisions to maintain Beehive relationships, to the extent they are needed on monetary policy matters.

Thinking about the MPC

Michael Reddell MPC, Reserve Bank Act reforms

I wrote earlier in the week about the as-yet unfilled vacancy in the office of Governor of the Reserve Bank. But there is also another significant vacancy that needs to be filled in the coming weeks, as the oft-extended MPC term of Bob Buckle finally comes to an end.

Buckle appears to be older than Donald Trump and has been on the MPC since it began 6.5 years ago. That means he’s been fully part of all the very costly bad calls ($11 billion of taxpayers losses when the MPC authorised the Bank to punt big in the bond market, and the worst outbreak of inflation in many decades, the consequences of which – notably in the labour market – we are still living with). And in his 6.5 years on the committee we’ve learned nothing at all of any distinctive contribution he may have made, we’ve heard nothing of his views (was he cheerleader, did he ever express any doubts etc?), there have been no speeches or interviews, he’s never apologised for or even acknowledged the bad calls (and their consequences) he’s been fully part of. And yet he has twice had his term extended (first reappointed by Robertson and was then extended again by Willis). He isn’t uniquely bad, and of the three externals first appointed back in 2019, when active expertise was deliberately excluded by Quigley and Orr, he was the least unqualified. But he is representative of all that is unsatisfactory with the Reserve Bank monetary policy governance reforms put in place in 2019. There is no accountability whatever, despite exercising huge amounts of delegated power.

Thinking about the vacancy, and the fact that it is now just over a year since Willis appointed two new, and apparently more capable, external MPC members prompted me to dig out the paper (“The Governance of Monetary Policy – Process, Structure, and International Experience”) that one of those new MPC members, (Prasanna Gai an academic at the University of Auckland but who’d spent a lot of time earlier in his career at the Bank of England), wrote in January 2023 as a consultant to the external panel reviewing the Reserve Bank of Australia. That review process that led to amended legislation and the creation this year of a distinct RBA Monetary Policy Board. It is a useful paper, easy to read and not long (28 pages), surveying experiences in a number of countries (including a quite sceptical treatment of the New Zealand MPC experience) and concluding with a couple of pages headed “Towards an ideal set-up” with six specific recommendations for the design of an MPC.

These were the recommendations

Recommendation 1: External members should be appointed through a merit based competitive process run at “double arms-length”, by a bi-partisan hiring committee appointed by the Treasurer that is diverse, experienced, and representative of society. Treasury Officials should be excluded from the MPC.

Recommendation 2: The threshold for economic expertise and policy acumen should be high. Members should be professional economists, with backgrounds in macroeconomics and financial economics, or offer broader experiences relevant to monetary policy. Gender, ethnicity, and industry diversity should be
important considerations in deciding the MPC make-up. Membership should be part-time with a commitment of around 3 days per week on average. Overseas members should be considered, subject to this time commitment.

Recommendation 3: The MPC should be relatively small (six). There should be two internal members and four externals. The role of Chair of the committee should rotate periodically and external members should be chosen for their capacity to serve in this regard. Pre-deliberation opinions should be sought, recorded (e.g. “dot plots”), and released to the public at an appropriate time. The chair should speak last and members invited to speak randomly. MPC members should be encouraged to interact with RBA staff between meetings.

Recommendation 4: The term of office be a single, non-renewable term of no more than five years.

Recommendation 5: To optimise information production and processing and to ensure democratic accountability, each member of the committee should “own” their decision and regularly explain their thinking to stakeholders at parliament and other fora. Members should have the freedom to dissent and MPC processes should be designed to diminish cacophony. Transcripts of the deliberation meeting should be released after a suitable lag so that stakeholders have a complete picture of the reasoning and debate behind the policy decision.

Recommendation 6: The MPC should be exposed to a regular schedule of external review by experts in monetary policy at 5-7 year intervals. These experts should be independently commissioned by the Treasury without consultation from the RBA, to avoid claims of partiality. The Treasury should take the lead in ensuring that review recommendations and insights are taken on board by the RBA and MPC.

Interesting food for thought, but anyone with any familiarity with the New Zealand system will recognise that list bears almost no relationship to what we have here (in law or in practice), except perhaps that odd “gender diversity” priority, which is pretty clearly what led Grant Robertson to appoint Caroline Saunders to the initial MPC (OIAed papers support that conclusion) and is probably why Orr appointed the otherwise utterly unqualified Karen Silk as the deputy chief executive responsible for macroeconomics and monetary policy, complete with a voting seat on the MPC. And, to be fair, there are some elements of Gai’s recommendations that I don’t agree with (including rotating the chair, bipartisan selection, and non-renewable terms).

One of the reasons I don’t like the idea of non-renewable terms is that serious accountability (ie with real and personal consequences at stake) is hard enough generally, but that the possibility of non-renewal is the most plausible point at which a monetary policy decisionmaker might face paying a price if they’d done poorly. Under the 1989 Act, the Bank’s Board was transformed into a body designed almost solely to hold the Governor to account, and they could recommend dismissal at any point if they concluded he was doing monetary policy poorly. The Board ended up so close to management (and for long periods was chaired by former senior managers), and had no resources of its own and limited economic expertise, that challenge was difficult. But, in principle, reappointment offered a chance, without too much awkwardness, to suggest that it was time for an incumbent to move on. The current Board still has some such role in respect of non-executive MPC members.

(The system was finally discredited in 2022 when, with all of Orr’s personal and policy failings already on display, the outgoing old board still recommended to their successors that Orr be reappointed, one of the worst public appointment decisions in New Zealand in quite some time, culminating in the engineered exit this year, barely two years into his second term.)

In formulating his recommendations, Prasanna Gai explicitly drew on a 2018 conference paper, (“Robust Design Principles for Monetary Policy Committees”) prepared for an RBA Conference, and written by David Archer (then a senior manager at the BIS) and Andrew Levin, a US academic but former Fed staffer. Archer, of course, had previously been chief economist and head of financial markets at the Reserve Bank until about 2004. It is another fairly accessible not-overly-long (16 pages) piece and they conclude with eleven principles, grouped as seven “governance principles” and four “transparency principles” (although I’m not sure I really buy the distinction). But like the Gai paper, it is very technocratic and rather weak on the place of a powerful central bank in a democratic society.

Reading the two documents together the thing I found most striking was that there was lots of talk (and they seemed to mean it seriously) about the importance of “accountability” (most explicitly in Gai’s recommendation 5 but strongly implicit in 3 and 6 as well). Archer and Levin are very much in the same vein (“Principle 6: Each MPC member should be individually accountable to elected officials and the public”). And yet, none of it seemed to involve any consequences whatever for the individuals. Both favour non-renewable terms so there is no potential discipline there, and Gai never ever seems to mention the possibility of removing an MPC member who had done monetary policy poorly. Archer and Levin are only slightly better, suggesting – in just a very brief reference not elaborated – that there should be “removal only in cases of malfeasance or grossly inadequate performance”.

I was a bit puzzled. One might expect serving central bankers to recite empty mantras about accountability that boil down in substance to not much more than having to publish a few documents and the Governor fronting up every so often to rather soft questioning at a parliamentary committee (in essence, the New Zealand model). But although each of these three authors had been central bankers none were at the time of writing.

It was, perhaps, particularly surprising in Gai’s case. After all, he was writing in January 2023 when central bankers in a wide range of countries were revealed as having stuffed up badly (no doubt with the best will in the world) and Phil Lowe was under fire in Australia. I wondered if perhaps one factor for Archer and Levin had been that were writing in 2018 when we were several decades into inflation targeting and in most countries if there had been monetary policy errors in the grand scheme of things they were relatively small.

And so I asked David Archer (now retired) why their paper had not dealt in any detail with options for serious personal accountability. He gave me permission to quote from his response (prefaced by a “joint papers are a compromise”)

On making accountability real, I favour the ability to remove for policy failure reasons
(a) where it is possible to define the objective with some clarity, and 
(b) where the procedure and protocols for assessing the bank’s/individual’s contributions to failure are fairly robust and shielded from political intervention.
 
I think (a) is possible, since maintaining medium term price stability — a single objective, able to be stated numerically — is clear enough.
 
I think (b) is more difficult. A previous NZ construction, involving a monitoring group that comprises outsiders who owe their duty to the public but that is able to peer inside the operation — that is, a board with independent chair and no management responsibilities — was a pretty good, though not perfect design. The imperfections were less in the construction than the execution, but the construction could still have been better — eg a requirement for an annual assessment report that requires a ministerial response and FEC examination.
 
It is noteworthy that the ability to remove for policy failures is almost vanishingly rare internationally. 

I agree with the spirit although not entirely with the details. In the end, I think that – in a democracy – decisions to appoint or to remove MPC members (executive or not) should be made by people who are elected (ie politicians) and thus themselves directly accountable. But it might be a reasonable balance to say that people could only be removed (for policy failure causes) on the recommendation of an independent assessment panel.

Unlike David, I think the old Reserve Bank Board model (while well-intentioned) was never likely to be an adequate approach. Operating within the Bank, with the Governor as a member, with a senior Bank manager as secretary, with no analytical or consulting resource of their own (to which one could add that they were required to review each MPS and see if it did the statutory job, which made it hard to stand back later and hold the Governor to serious account) it was never likely to succeed. Things got too cosy, the Board was more interested in having the Governor’s back, they held cocktail functions to help spread the Bank’s story, and to the extent there was challenge or questioning it was often on rather technical points rather than seriously attempting accountability. It might have been different if something like the Macroeconomic Advisory Council I used to champion had been set up, fully independent of the Bank and Treasury, and with serious analytical grunt itself.

Central bank monetary policymakers wield a great deal of power. There is no review or appeal process embedded. Being human, the best central bankers will make mistakes (just like the best corporate managers or corporate boards) and there needs to be a personal price to failure, otherwise we have given great power with little or no responsibility. If really big mistakes are not going to lead to those responsible being fired – or not even lead to them being not reappointed – we should rethink whether operational autonomy over monetary policy is appropriate at all. We still need expertise on these issues – as in so many other areas of public life – but there is no necessary reason why the decisionmaking power should be delegated. When politicians wield power we have the satisfaction of being able to toss them out when they do poorly. (And for those who worry about possible pro-inflation biases among politicians, a) for the decade pre-Covid we had the opposite problem (inflation a bit too low relative to target) from central bankers, and b) it is salutary to see how much “cost of living” now features among public concerns, here and elsewhere, even a couple of years after the worst of the inflation.)

To be clear, I am not suggesting that independent MPCs should be able to be second-guessed when they make their initial decisions (even if there had been a consensus in March/April 2020 that the MPC was going astray, Orr and company shouldn’t have been able to be tossed out then). But when outcomes go so badly off track, people should be removable and should not be reappointed. It can’t be a mechanical or formulaic thing – outcomes are always a mixture of specific policy judgements and unforeseeable shocks – but there is nothing particular unique about monetary policy in that (see the ousting of corporate chieftains when things go badly astray; sometimes it is just because there needs to be a scapegoat, somone seen to take the fall). But it does heighten the importance of making people individually responsible – speeches, interviews, proper minutes, attributed votes, FEC hearings and so on. It is hard to dismiss an entire committee – one of the 1989 government’s reasons then for choosing a single decisionmaker – but if a committee is doing its job at all well, some members will inevitably emerge looking better (or worse) than others. (Unlike our experts – above – I think there is a particular responsibility on the Governor, who controls staff analysis etc and is full time, but that isn’t an excuse for free-riding externals).

There is one area where we deliberately make it all but impossible to remove someone for bad substantive decisions: the judiciary. And that is probably as it has to be. But in the case of lower courts there are (layers of) appeal processes, and in higher courts finality is often the point (there may not be objectively right or wrong legal interpretations, but what the courts provide – subject to parliamentary override – is finality. And unlike most central banks, courts are unshamed about having majority and dissenting opinions, the latter often lengthy and thoughtful. There is no good reason for putting our central bankers on such a protected pedestal – mess up badly and face no personal consequences, no matter how much damage those bad choices have done to the country.

But to come back to the mundane, you have to wonder what Prasanna Gai makes of being an MPC member, operating in a model so much at odds with the analysis and recommendations he gave to the RBA review panel not much more than a couple of years ago:

  • He was selected last year by a panel, appointed entirely by the previous Labour government, led by Orr and Quigley, who would have spurned his expertise when the MPC was first set up in 2019,
  • The Secretary to the Treasury (or his nominee) is a non-voting member of the committee,
  • The MPC is numerically dominated by internals, one of whom has no economics background at all,
  • Not only is the chair not rotated, but it was held by a domineering personality, long observed to be intolerant of challenge and dissent, whose governorship finally flamed out when he completely lost his cool in meetings with, first, Treasury and then the Minister,
  • MPC members have renewable terms (although I guess Gai could decline to seek a second term)
  • There is no disclosure of individual member views, either in minutes or subsequently in speeches, interviews, or hearings (and in his paper Gai makes much of the free-rider problem/risk), and
  • Despite having been in place for 6.5 years now, through some of the most turbulent times for decades, the only “review process” was run by the Bank itself.

To which, we might add, that Gai himself made a little history recently by actually doing a speech on matters relevant to New Zealand monetary policy to an outside audience. Which was good. Except that no text of that speech was made available, no recording of the question time was made available, and only those who happened to be in Auckland on the day could get one of the limited number of tickets. He and the Bank appear to have allowed the event to be advertised as offering exclusive access. Gai refused to entertain media questions either. Since the MPC Charter actually does allow members to make speeches, which are supposed to be readily available, he cannot even blame those choices on “the rules”. It doesn’t really seem like walking the talk.

It is a shame in someone who appeared to have a lot to offer that he seems to have adapted to the cage Orr. Quigley, and Robertson built, and which so far Willis has done nothing to overhaul. I strongly suspect he adds more value than Peter Harris or Caroline Saunders – and I valued my engagement with him in those pre MPC years – but for the time being they are observationally equivalent. For those who initially talked him up as a potential Governor – and noting slim pickings – it isn’t a great display of leadership in action.

Meanwhile it will be interesting to see what sort of person Quigley and Willis find for the Buckle vacancy. Recall that, like the Governor’s position, the Board proposes, but the Minister of Finance is quite free to knock back a nomination and insist that the Board comes back with someone better.

MPC members speaking

Michael Reddell Monetary policy, MPC, Reserve Bank

In both The Post and the Herald this morning there are reports of interviews with executive members of the Reserve Bank’s Monetary Policy Committee: the Bank’s chief economist Paul Conway in The Post and his boss, and the deputy chief executive responsible for monetary policy and macroeconomics, Karen Silk in the Herald. In a high-performing central bank the holders of these two positions should be the people we look to for the most depth and authoritative background comment on monetary policy and economic developments. But in New Zealand we are dealing with the legacy of the Orr/Quigley years where we struggle to get straightforwardness, let alone depth and insight.

Now, to bend over backwards to be fair, interview responses will depend, at least in part, on what the journalist concerned chooses to ask. But then standard media training advice is to answer the question you wish they’d ask, not (necessarily or only just) the one they did. An interview with a powerful decisionmaker is a platform for the decisionmaker.

The Conway interview appears somewhat meandering and not very focused. I wanted to touch on three sets of comments in it.

First, asked about the transition after Adrian Orr’s sudden (and unexplained) departure, he says it is business as usual and it has been “a very smooth transition”.

“I think this institution is bigger than even Adrian Orr [it was certainly bigger – much bigger – as a result of Adrian Orr]……There’s a real sense of the ‘show must go on’ and it really has. We miss Adrian. It is a bit less fun around the place, less jokes going on – probably more appropriate jokes”, he smiles again.

So in addition to Orr being a bully, an empire builder, and someone well known for freezing out challenge and dissent, he also created an uncomfortable and inappropriate working environment? Or at least that is what Conway appears to be saying about the man who recruited him.

But you also wonder about just how straight Conway is being (and why the journalist didn’t ask more). After all, the Bank itself tells us there are big changes afoot (presumably consequent on the new Funding Agreement, prospect and actual). In the just over two months since Orr resigned, the top tier of management has been brutally slimmed down (credit to Hawkesby). At the start of March there was the Governor and an Executive Leadership Team of seven Assistant/Deputy Governors and one “Strategic Adviser”. Since then, Kate Kolich, Greg Smith, Sarah Owen, Simone Robbers and Nigel Prince have all either left already or we’ve been advised they will soon be doing so (none with an announced job to go to). Governor plus eight has been reduced to Governor plus four. And

That first group is Conway’s own level (though presumably the Bank will continue to need a chief economist). And then on down to the staff (and much of this is because Orr/Quigley massively blew the budget limit Grant Robertson had set for them and went on one last hiring spree last year). You somehow suspect that all is not exactly sweetness, light, and engagement at the Reserve Bank.

And then there was this

Conway is on record as a bigger-government sort of guy (we had his extra-curricular stuff last year, as an example) but what possessed him, interviewed as an MPC member and senior central banker, to suggest that more state interventions and bigger government might be “worth thinking about”? It simply isn’t in his bailiwick, and he shouldn’t have allowed himself to be dragged into responding to a hypothetical, especially about one outside the Bank’s responsibilities.

And finally, we got the meandering thought that “it’s possible that we get to a point where people just adjust their behaviours and ‘uncertainty’ becomes the new normal and we just get on with it. I’ve got no ’empirics’ to base that on – it’s just, I think, a very interesting thought-stream.”

Really? A “very interesting thought-stream” that people do in fact adapt to the world as it is? Startling and insightful (not).

Then, of course, there is his boss, Silk. Most serious observers regard her as fundamentally unqualified for her job, and not the sort of person who would be likely to be on an MPC anywhere else in the world, let alone as the deputy primarily responsible for monetary policy. She can be counted on to safely deliver speeches on operational topics that others have written for her, and to answer purely factual questions at MPS press conferences and FEC about what has happened to swap yields and mortgage rates. And that is about all.

She also seems to have a mindset in which rates being paid on existing mortgages are what matter rather than the rates facing marginal borrowers and purchasers. Perhaps it is what comes from a non-economics background in a bank? Thus, in the Herald interview we are told that she claimed that “the effects of the 225 basis points of OCR cuts the committee had delivered in less than a year were yet to be widely felt”. The journalist added some RB data on average actual mortgage rates which might appear to back that up. Of course, expected cash flows matter as well as actual ones – if your fixed rate mortgage is going to roll over in a couple of months onto a much lower rate that will almost certainly be affecting your comfort, confidence, and willingness to spend now. But more to the point, marginal rates for people looking at buying a property or otherwise taking on new debt have come down a long way, and were already down a long way months ago. This chart is from the Bank’s own website, showing short-term fixed mortgage rates.

As at yesterday, rates were a few basis points lower again than the end-April rates shown here. 200 basis points plus down from the peak, and that not just yesterday. And falling wholesale rates, which underpin these falls in retail rates, also affect the exchange rate, another important part of the transmission mechanism. (And, of course, with all Silk’s focus on the cash flows of existing borrowers, she never ever mentions the offsetting changes in the cash flows for existing depositors – I’m of an age to know!)

So far, so predictable (at least from Silk). But then there was this (charitably I’ll assume the word “fulsome” was not hers)

Reasonable people might differ over the inflation outlook and the required future path for the OCR, except that we were told in the MPS that there was unanimous agreement from the MPC to the forecast path for interest rates. And that is a path that is lower from here than the path published (again unanimously) in the February MPS (the deviation begins after the May MPS, not at it). In other words, not only did the February path show some further easing from (where they expected to be, and were, by) May onwards, but the May path shows even more easing from here forward.

And yet Silk talks of a “much stronger easing signal” sent in February.

Frankly, they seem all over the place. If the Committee (as it did) unanimously agrees to publish a (somewhat) steeper downward track than the one you had before then either you have an easing bias – always contingent on the data of course – or you made a mistake in adopting the track you did. And if you are comfortable with the track, it feels like a mis-step for the temporary fill-in Governor to announce that there was no bias. I guess Silk might have got stuck having to cover for her fill-in boss, but it is a pretty poor look all round. Surely (surely?) they must have rehearsed lines about biases before the press conference? Surely, if so, someone pointed out the disconnect between the proposed words and the chart above?

And finally from Silk we learn that “price stability is one of the conditions you need for growth”. It simply isn’t – and the economists on the committee are usually much more careful, with the standard central banker line being that price stability, or low and stable inflation, is the best contribution monetary policy can make (many muttering under their breath that that contribution isn’t necessarily very large). Not to labour the point but the economy was still growing, reaching its most overheated point in late 2022, when core inflation was around its worst.

All in all, not a great effort at communications from the MPC this week. As I noted in my post on Thursday, there was none of the prickly frostiness of Orr, and no sign of deliberately or conscious setting out to mislead Parliament, but it simply wasn’t a very good performance. And while Hawkesby is new to the role, chairing MPC and acting as its prime spokesperson on the day, Conway and Silk have no such excuse. Someone flippantly suggested that perhaps there is something about May and the MPC – last May was when the MPC went a bit wild talking of raising rates further (the OCR was still going to be above 5 per cent by now), and then Conway tried to blame his tools, rather than the judgements of him and his colleagues, for the associated forecasts.

If the government is at all serious about a much better, world class, Reserve Bank, they need to work with the Board to find a Governor who will lift the game and the Governor/refreshed Board will need to work with the Minister to produce a stronger MPC. It would seem unlikely that in such an improved Bank/MPC there would be a natural place for either Conway or Silk, pleasant enough people as they may be.

A letter

Michael Reddell Adrian Orr, MPC

After the Reserve Bank’s appearance on 20 February at the Finance and Expenditure Committee (the Governor, his macro deputy Karen Silk, and his chief economist Paul Conway) on the previous day’s Monetary Policy Statement, I wrote a post here about it, focused on a number of areas in which Orr, either actively abetted or silently accompanied by his senior colleagues, had been stringing along or actively misleading (or worse) the Commitee. The post was headed Orr at it again, a reminder that there had been all too many such cases from the Governor over recent years – mostly misleading FEC (a rather serious matter) but also not infrequently any media outlets that ever posed slightly awkward questions. It is a long list and I won’t bore you with details (you can search: Google and “croaking cassandra, Orr, misleading” appears to work well).

There have been many specific points over the years. Some are quite complex to explain, and many get lost in longer posts. But on 20 February there had been a very specific, easy to explain, readily verifiable, factual claim.

“We were one of the first central banks in the world to be tightening; we were one of the first central banks in the world to be easing” said the Governor.

He’d made versions of the first bit of it previously (many times) but the second claim seemed new.

So I thought it might be useful to devote a single post just to rebutting those two specific claims. It would be easy to refer people to in future (and to find myself). It was headed, plaintively, Why is such rank dishonesty tolerated?

I didn’t give it much more thought. But someone else who is equally frustrated by Orr’s record of playing fast and loose with the facts got in touch suggesting that it might be worth raising the matter with the Finance and Expenditure Committee. I don’t have much confidence in any of our institutions these days, but the person who contacted me tends to be a bit more optimistic about things. Reflecting on the suggestion a bit more I decided it couldn’t really do any harm. There was, after all, a new chair of FEC, and it was possible he was neither aware of the extent to which his committee hearing had been misled, or of past form.

And so I wrote to Cameron Brewer, the National MP newly appointed to chair the committee, copied to Labour’s finance spokesperson Barbara Edmonds.

I heard nothing at all from Edmonds (perhaps Oppositions don’t bother with scrutiny of government agencies these days?). There was an automated reply from Brewer which assured correspondents that

More than five business days have now passed, and not even the courtesy of a reply.

Now, in a sense some of the specific concern has been overtaken by events. The Governor has resigned, effective from 31 March, and disappeared on leave for the rest of month with no explanations. But a) Orr is still a public official, and b) his two colleagues who sat alongside him while he made these claims are still in office (both statutory officeholders on the MPC). The chief economist at least must have known his boss was simply making stuff up, but did nothing to clarify things for the committee members.

Is Parliament, is FEC specifically, really so unbothered about being misled by such senior officials? Revealed behaviour over the years suggests so, but there is always (idle?) hope when a new person takes over. Perhaps some might take Parliament and its committees seriously as more than just a chance for performative display and bonhomie, and with an expectation that senior public officials, exercising a huge amount of power, might account for themselves in an honest, transparent, and positively helpful manner. It is what we should expect from members of Parliament – our representatives – and from the public officials. Too often it isn’t what we get.

Perhaps if someone in power had called Orr out previously we might never have got to Wednesday’s very messy departure, that seems to diminish both him, the Bank, and those (Board, minister, MPs) paid to hold him to account.

Appendix:

In case people have trouble reading the photo of the letter above, here is the body of the text:

Dear Mr Brewer,

I am writing to you in your capacity as chair of Parliament’s Finance and Expenditure Committee (cc’ed to the senior Labour Party member of the committee).

At your hearing on Thursday 20 February on the Reserve Bank’s latest Monetary Policy Statement, the Governor, Adrian Orr, in response to a question from Dan Bidois stated of the Bank and MPC 

“We were one of the first central banks in the world to be tightening; we were one of the first central banks in the world to be easing”

This was simply not so, on either count (tightening or loosening).   Moreover, it is not the first time that he has made similar claims to FEC, particularly in respect of the tightenings that began in late 2021. 

I am a former senior Reserve Bank official, served formerly on the board of the International Monetary Fund  (and serve now as a director of the central bank of Papua New Guinea).  Among other topics, my economics blog devotes considerable space to monetary policy and central bank governance issues.  In a post yesterday, I documented again how indefensible the Governor’s claims around 2021 were, and that the claim about being “one of the first to ease” (a new claim from him) was even less defensible.  In fact, in both episodes the Bank acted around the middle of the pack of OECD central banks (having allowed the economy first to become materially more overheated than most of their peers had).

Why is such rank dishonesty tolerated? | croaking cassandra

There are strong grounds to believe that the Governor makes these claims to your committee either knowing them to be false, or holding a position (and with resources at his disposal) in which he should be reasonably be expected to know that they are false,  Within the limited time each member inevitably gets in these FEC hearings, and with none of the MPs involved being specialists, he appears to count on getting away with it because none of you will have precise facts at your fingertips.

You are new to the FEC role.  Unfortunately, over the last few years there has been a succession of claims to the Committee by the Governor that are demonstrably false or misleading.  Many of these have been documented on my blog, and I would be happy to provide further detail.

Conduct like this tends to diminish both the Reserve Bank (once highly regarded internationally, now more often regarded with eye-rolling despair) and, more importantly, Parliament itself.   FEC scrutiny has been a key element of the autonomous Reserve Bank model since it was first set up in 1989, and effective parliamentary scrutiny of any public agency relies on the honesty and integrity of senior public officials.  You will know better than me the very serious view that Parliament has historically taken of either MPs or witnesses at select committees misleading Parliament or its committees.

At very least, I would urge you to follow up this matter with the Governor, inviting him to provide solid substantiation for his very specific claims.

Yours faithfully

 

Central bank policy communications

Michael Reddell MPC

For a long time I’ve been a strong supporter of central bank transparency about stuff a central bank actually knows something about, but a sceptic of the faux transparency of publishing stuff a central bank really knows very little about. In the former category, one might think of the background papers going to the MPC (by aiming deliberately low I once got them out of the Bank for a forecast round 10 years previously, but good luck if you asked now for the papers around the 2020 and 2021 decisionmaking, let alone those from six months ago). In the latter category I primarily had in mind medium-term macroeconomic forecasts, including endogenous forecasts for the OCR. Sure, the numbers are mostly put together fairly honestly, but in truth (and this isn’t a criticism, more a description of the limitations of human knowledge) central banks just don’t know very much about the future, especially a couple of years ahead. In principle, an OCR forecast now for the end of 2026 would be drawing on forecasts for inflation pressures well out into 2028. Forecasting 2024 or 2025 remains a considerable challenge.

But my criticisms there have typically been about the hubris or delusion involved in thinking one could add meaningful value re where things might be a couple of years hence. In fact, I was rereading this morning an old piece I used at a BIS conference years ago on such issues. But I tended to be relatively more relaxed about near-term forecasts, for (say) the next quarter or two, included the associated guidance on likely policy. If one might still be sceptical about just how good central banks might be at nowcasting or near-term forecasting (a) they do have more resource to throw at the issue than any other forecaster, and b) they should at very least know a little more than we otherwise do about their own reaction functions (ie how they might react to any given set of economic/inflation data). That might be so whether one had in mind explicit near-term OCR forecasts (to the second decimal place) as the Reserve Bank does, or just “bias statements” of the sort pretty much all central banks tend to engage in.

Here in New Zealand, even with some new and (apparently) improved external membership of the MPC, the last six months don’t score very well even on that count.

It was less than five months ago (22 May in fact) when the MPC released a Monetary Policy Statement indicating, in their forecast track, that there was a bit better than even chance that the next warranted move in the OCR would be an increase this year (to be consistent with this track, probably in August).

Their associated communications (which I’ve written about previously) was so at-sea that they tried to deny the implications of their own chosen track (the chief economist even tried to blame it on the tools, rather than the MPC of which he was a part).

Within six weeks, (without a new full set of forecasts, and in the absence on holiday of the chief economist), the MPC had flipped to a dovish stance. This was how I illustrated it at the time

And on this occasion they more or less did follow through. There wasn’t any huge inconsistency between their July and August statements (and the associated 25 basis point cut in the OCR).

But this was the forecast track in the August MPS, published only six weeks ago

That forecast track was exactly consistent (weight by days) with 25 basis point cuts in October and November, such that it was clearly intended by the MPC as specific forward guidance. It looks as if they envisaged another 25 basis point cut in February such that by then the OCR would have been lowered to 4.5 per cent.

And yet yesterday we saw a 50 basis point cut, and a fairly high degree of confidence among market economists that another 50 points will follow next month. One can argue that there wasn’t a clear direct signal of that from the MPC, although when you put a big headline in the “minutes”, and explicit statements that a) inflation is expected to “remain” around the target midpoint, and b) that an OCR of 4.75 per cent is still “restrictive”, it doesn’t take much guessing to see what they had in mind yesterday (especially with the three month MPC summer holiday coming up).

Now, as it happens, I think yesterday’s OCR cut was most likely to right call in substantive macroeconomic terms (and still think we are probably heading towards 2.5 per cent by the second half of next year). But that isn’t the issue for this post. Rather the point was nicely summed up by a journalist’s tweet yesterday

Which is a pretty damning indictment, of a committee whose claims to exercise such great discretionary power is that they are technically expert and have some reliable/predictable idea of what they are doing. And that simply isn’t obvious at present.

No one particularly minds when central banks change their mind when there is some significant exogenous shock, the size or timing of which they could not reasonably have anticipated. But it is far from clear that anything very much has changed about the economic backdrop since May (no really big data surprises on GDP or unemployment, and confidence measures seem to have bounced around a bit without leaving us in a lot different place than in early May, let alone August). Instead, the expert committee, drawing on its staff, seem simply to have gotten things very wrong, and to have seriously misread the extent of the disinflation that was already well in train (or at least so they assume, having anticipated yesterday the CPI numbers out next week). It doesn’t seem so different (though probably less severe) than the mistake they made in 2020/21 and even early 2022.

If the MPC really can’t do better than that there are two options. Either they aren’t the men and women for the job (in several cases that seems quite likely) or they should stop just injecting random noise purporting to be expert judgement by publishing forward tracks and indications of what might happen next. And, of course, there is no indication in any of the published sets of minutes from May to now of any robust debate or disagreement among MPC members, which is simply additionally damning: they all went along with each of the flip flops and inconsistencies through time, with no indication that any of them were applying the intellectual energy and analytical grunt to contest and challenge whatever view was coming from staff or management. I’ve long argued for much more personal accountability for MPC members – the risk has always just been that individuals (whether inexpert internals or the externals) would just free-ride, go along for the status, the fee, the addition to the CV, while adding little, and not bearing any consequences when the overall MPC does poorly. Management hates the idea of an open contest of ideas – has ever since reform models started being explored a decade ago – and one of their worries was of a “cacophony” of voices, in which truth would be obscured. It was never a compelling argument – other central banks manage, and it was a clearly an argument that reflected mostly management self-interest – but the experience of the last six months highlights again just how little “truth” or knowledge there is in anything much the MPC says beyond the specific OCR adjustment on a specific day. An open (but respectful) contest of ideas, exploration of alternative models, could hardly be worse than what’s been on offer again this year.

Bits and pieces

Michael Reddell MPC

As the executive members of the Reserve Bank’s MPC have fanned out in an attempt to put a favourable gloss on what everyone else recognises as a really sharp change of view between May and July/August (call it a U-turn or a flip-flop, or just a change a view sharper in a short space of time than ever seen from the Reserve Bank absent an exogenous external shock) there have been various rather dubious attempts to rewrite history. There was the Governor of course, but in the last couple of days we’ve also heard from Deputy Governor Christian Hawkesby, and from the deputy chief executive responsible for macroeconomics and monetary policy, Karen Silk. Whether these MPC members, really highly-paid senior officials, actually believed what they were saying when they said it (most likely) or were deliberately setting out to deceive, it really isn’t good enough.

As regards Hawkesby, interest.co.nz’s Dan Brunskill captured in this Twitter thread and the article he links to there.

And then there was Silk. In almost any other advanced country central bank, the holder of a position like her’s would be a highly-regarded economist who, if one didn’t always agree, could at least be counted on to be on top of the facts. Not so Silk, on either count.

She gave an interview to NBR and someone sent me a link to the article. It included these lines, attempting to explain the shift of view

That highlighted bit didn’t sound right, but…….she is the highly-paid statutory officeholder. So I thought I should look up the Bank’s own numbers.

The May MPS was finalised in the middle of the June quarter. In that set of forecasts their best guess was that the output gap had been negative in the March quarter, and was substantially negative in the June quarter. In fact, since May they’ve become less optimistic on when the crossover (to negative output gap) occurred, and for the first half of 2024 as a whole there is no material difference in the output gap view. It is really pretty basic stuff that commentators shouldn’t have to go round fact-checking, as if it was a politician on the campaign trail they were dealing with. (And yes, the Reserve Bank has become more pessimistic – larger negative output gaps – for Q3 and Q4, which is a point she could legitimately have made, but wasn’t (at all) the one she actually tried to put over.)

But digging into my table of old output gap estimate prompted me to look again at how they’d evolved, and when the Bank first estimated that the economy was really quite badly overheated (ie published a real-time estimate of a big positive output gap). They now reckon the output gap peaked in the September quarter of 2022 at about 4.5 per cent of GDP. That’s a dreadful reflection, but it is also an estimate with the benefit of hindsight.

What counts as “big”? If we look back to the 00s – and by 2007 there wasn’t much doubt that the economy was really overheated – the Reserve Bank now estimates a peak positive output gap then a 2.8% (of potential GDP).

As early as the November 2021 MPS, the Bank estimated that in the June quarter of 2021 the output gap had reached 2.6 per cent of GDP. Now, things got messed up by the lockdowns in the second half of 2021, but even in November 2021 the Bank thought the output gap would be back up to 2 per cent by the following quarter (March 2022).

Perhaps more strikingly, by the May 2022 MPS, the Reserve Bank estimated that the output gap for the quarter they were actually in was 2.7 per cent of GDP. As time passes it is so easy to lose sight of what happened when, but the May 2022 MPS was the one in which the Bank raised the OCR to the giddy heights of 2 per cent, pretty much bang on the midpoint estimate of the neutral nominal OCR (as published in that same MPS). Why would you (MPC) consider it appropriate to have the OCR only at neutral when the economy was already, on your own estimates, badly overheated? As an independent check on overheating, the unemployment rate for the March quarter (which the MPC had when they made their decision) was a multi-decade low of 3.2 per cent.

Now, it is certainly fair to note that the May 2022 MPS included a projected track of further OCR increases over the following year to a peak of around 3.9 per cent. But – as we’ve just seen again since May – forward tracks are to a considerable extent vapourware; the hard decision was the OCR decision made that day by that committee (which incidentally included both Silk and Hawkesby, and the then new chief economist Paul Conway).

It is easy to look back and criticise historical forecasts that turn out to be quite wrong. But that isn’t my point here. On the Reserve Bank’s own forecasts and estimates – of two unobservable variables (neutral interest rates and output gaps), but ones that play a significant part in the Bank’s rhetorical framing – things were badly overheated and yet the OCR had barely got to neutral. And it wasn’t as if there was no inflation evident: in May 2022 the latest estimate from the Bank’s own slow-moving sectoral factor model measure of core inflation was already at 4.2 per cent (later revised a bit further up), miles above the top of the target range, let alone the target midpoint that the MPC was supposed to have been focused on.

There really isn’t much excuse. On estimates the Bank had in front of them – and was willing to publish – the inflation drama could by now have been over a year ago had they adopted an OCR that their own forecasts/estimates pointed to. But the MPC chose not to (just as, for some weird reason, they kept on pumping out modestly-subsidised (so-called) Funding for Lending loans to banks – a Covid support measure, designed when the concern was deflationary risks – for many months more. Remarkably, there are still $15 billion of these loans outstanding.

The MPC’s stewardship of monetary policy in the last few years has been pretty consistently bad. If you might reasonably make allowances for 2020 – it was a very unusual event and set of circumstances and almost everyone found it hard to read (but the MPC is paid to be more expert than most) – nothing really justifies the delayed start to OCR hikes, or the sluggish response even at a point (mid 2022) when the Reserve Bank itself told us the economy was grossly overheated and core inflation was already well outside the target range. Against that backdrop, one can mount a reasonable case that this year’s policy flip-flop doesn’t matter hugely in macroeconomic terms. But it shouldn’t have happened – its view in May was not only clearly wrong, but it was clearly an outlier (views of other economists don’t provide them much cover – and when it did, we shouldn’t have to put with supposedly expert powerful officials just making up lines, apparently indifferent to the facts. Nor, of course, with a Governor who treats both facts and MPs (at FEC, the committee charged with scrutiny of the Bank) with such disdain whenever challenged.

Two central banks

Michael Reddell Australia, Monetary policy, MPC

I got curious yesterday about how the Australia/New Zealand real exchange rate had changed over the last decade, and so dug out the data on the changes in the two countries’ CPIs. Over the 10 years from March 2014 to March 2024, New Zealand’s CPI had risen by 30.3 per cent and Australia’s CPI had risen by 30.4 per cent.

And that piqued my interest because the two countries have different inflation targets: New Zealand’s centred on 2 per cent per annum and Australia’s centred on 2.5 per cent.

So I drew myself this chart

Over the full 10 years, the two CPIs have increased by almost exactly the same amount, but they haven’t kept pace with each other steadily over that full period. Up to just prior to Covid, the Australian CPI had been increasing faster than New Zealand’s, as one might have expected given that the RBA had been given a higher inflation target than the RBNZ.

Now, before anyone objects, I should get in and note that in neither country is there a price level target. But if economies are subject to fairly similar shocks over a period of time one should normally expect a country with a higher inflation target to have experienced a higher cumulative price level increase than a country with a lower target.

Over the 10 years here is Australia’s CPI relative to the price level that would have been implied by being consistently at target midpoint

and the same chart for New Zealand

And in this chart I’ve put it all together

Over the half-decade or so to the end of 2019, the RBA and the RBNZ had both ended up undershooting (on average) their targets by about the same extent. If you look closely, the RBNZ was undershooting more earlier, and the RBA more towards the end of the decade, but there wasn’t a great deal in the difference.

But where the difference really becomes apparent is in the years (four of them) since Covid hit. Over that period, the RBNZ has generated/tolerated much more of an increase in the price level, in excess of what is implied by their target, than the RBA did. (And for those – like Orr – who like to try distraction with things like oil shocks, wars and rumours of wars, and supply chain disruptions, Australia faced all those too.)

There is a lot of focus in Australia – and apparently reasonably enough – on whether the RBA has yet done enough with monetary policy. It has certainly been puzzling that they reckoned they could get away with materially lower policy rates than in other Anglo countries, in the face of (still) near-record low rates of unemployment and a quite stimulatory fiscal policy. But so far, and overall, they’ve done a bit less badly than the Reserve Bank of New Zealand through the last four years taken together.

It remains somewhat remarkable how little serious accountability there has been for serious Reserve Bank policy errors, for which now pretty much everyone (except them) is paying the price. in one form or another.

(By the way, for anyone interested, the NZD/AUD exchange rate averaged 0.933 in the March 2014 quarter and 0.932 in the March 2024 quarter, so over that particular 10 year period there was no change in the real exchange rate at all.)