On the ANZ affair

I’m no great fan of David Hisco, perhaps even less of John Key, and hold no particular brief for the ANZ either. I don’t now, and never have, worked for commercial banks.   I’m an ANZ customer, although largely by inertia rather than enthusiastic loyalty –  I was a happy National Bank customer, uneasy about the ANZ takeover, but actually I’ve not had any bad experiences so never went to the effort of changing banks.   But even with all that, and a couple of days on from my initial one-paragraph comment, I’m still at a loss to understand (substantively) why the Hisco expenses issue is exciting so many people and generating so much coverage from so many (ok, yes I’m now adding to it).

As a reminder, the ANZ New Zealand operation is a subsidiary (there is a branch as well, but ignore that) of a large Australian bank that has been operating in New Zealand since 1840.   There aren’t many post-settlement entities that have been operating here continuously for longer than that (Anglican, Catholic, and Methodist churches, and ……?). In that time, ANZ hasn’t failed, hasn’t been bailed out by the Crown, and has provided bank services to New Zealand well enough to, these day, be the largest player in the New Zealand banking market.

As customers, I’d have thought the main two things we’d want from our banks were that (a) they didn’t lose our money (or through some TBTF mechanism get the government to bail them out, and (b) that they provided the transactions and recordkeeping services tolerably well enough.  People can moan about banks all they like, and it can be a hassle to change banks in the shorter-term, but here we are talking about a bank operating in New Zealand for 179 years and counting.   Plenty of banks and quasi-banks have come and gone from the market in that time, as customers (new generations thereof) have preferred one institution over another.    Even the fact that today’s ANZ has grown partly by takeovers (Rural Bank, Postbank, Countrywide, National Bank) doesn’t change that story very much –  the most recent of those takeovers was 15 years ago, and ANZ must have offered the best deal to the vendors (presumably believing they could add most value through the purchases).   People can badly misjudge takeovers but, decades on, ANZ is still here, strongly capitalised and profitable (it isn’t, for example, akin to RBS taking over ABN-AMRO at the end of a frenzied boom).

What else might bother people?  Well, there is always the issue as to whether banks are “excessively” profitable.  I suppose my instinctive bias here is that of an old-fashioned central banker, preferring a profitable bank to the alternative.  But even setting that to one side, I’ve always been rather sceptical of the “excessively profitable” story, partly because the balance sheets of the New Zealand subsidiaries don’t tell the full story: the profits are not just a return on balance sheet equity, but also on the implied support of the parent banks in Australia.  I’ve also tended to emphasise the relatively open regulatory regime we have here, allowing new entrants to set up and take advantage of any (allegedly) excess returns.  But even if there is less to those stories than I have allowed, the merits of such arguments –  which might argue for a more active Commerce Commission involvement –  really shouldn’t be materially affected by the question of a (now-departed) CEO’s expenses, legitimate or otherwise, properly documented and reported internally or not.

I also get that some people are bothered by the level of senior executive salaries.  To be honest, at times I’m inclined to share those concerns (at least a little), perhaps especially around people who are really only second-tier employees in big Australian banking groups.  But what of it?  It is a private business, in a market where customers have alternatives.  If I really don’t like the fact that ANZ remunerates its top managers so well, I could shift my banking to, say, TSB.  They won’t be paying their CEO and top management anything like as much as ANZ is.

And then, of course, there is a scale of this particular issue.  We are told that the amounts involved are mid tens of thousands of dollars, spread over 10 years, so perhaps $5000 a year.   In respect of a person whose total remuneration over that ten years probably averaged $2million a year.  It seems quite appropriate for the ANZ’s group chief executive to want to tidy things up, and to be uneasy about how these expenses may hav been reported internally (details of which the public haven’t been told), but why is it a matter of any public – or legitimate political –  concern.  It is a private company.   Perhaps some people might be puzzled as to quite why ANZ pushed Hisco out over what looks like quite a small matter –  the question has been asked, is there something more to it –  but again, it is a private company, and Hisco is well-equipped to look out for his own interests, including ensuring that he has had good legal advice etc.    Perhaps one might expect the Reserve Bank, as prudential regulator (and that is all), to ask the ANZ a few questions, to ensure that the expenses issue isn’t a cover for more serious problems on Hisco’s watch but assuming it isn’t –  an ANZ would be in serious trouble, including with the ASX, if they were misrepresenting that  – that is about all the legitimate regulatory/political interest I can see.

The story has been used by people on the left, including trade unions, to run a “a bank teller would never get away with it” sort of line. But even if that has some rhetorical force, it shouldn’t.  For better or worse, a bank teller –  one of thousands doing similar jobs, on standard contracts –  would simply not have found themselves in the sort of situation where there was ambiguity about what was acceptable, or what had been subject to an oral agreement.  And had they somehow done so, and been fired, they’d have had recourse to their union and to the protections of employment law.

In various articles in the last few days, I’ve seen references to the idea that the banks somehow owe New Zealand for its support (as if to justify public involvement in the Hisco-Key affair).  There have been silly references –  no doubt channelling flawed lines from our bombastic populist Governor –  that somehow the banks were bailed out by the governmment in 2008/09.  They simply weren’t.  There was no risk of any significant bank failing in New Zealand at that time, whether from the funding/liquidity side or from credit losses and insufficient capital.  It is certainly true that there were various Reserve Bank and government direct interventions during that period, but those interventions were not about “saving the banks”, as about limiting the potential damage to the economy that might have arisen otherwise (extremely risk-averse banks – in the middle of a global crisis – would have pulled in lending more aggressively etc).  And cutting the OCR was no “favour” – in downturns, market interest rates tend to fall, and the Reserve Bank’s hand on the OCR is really just meant to mimic that.   I don’t want to take this line too far –  there is some interdependence, and banks operate in a system governed by parameters the political system has set up (eg having our own currency etc) –  but the robustness of the banks in 2008/09 was a credit primarily to them, their owners/managers etc, not to the New Zealand authorities.

We’ve also heard people talking about about the case for a Royal Commission into something around banking, the call we heard last year in the context of the Australian Royal Commission.    And here there is the suggestion –  I saw it in the Herald this morning –  that somehow again the banks owe the Reserve Bank and the authorities, because the latter “went out on a limb”, or “stuck their necks out” to protect the banks.  That is simply rubbish.  Rather, the Governor of the Reserve Bank (and to a lesser extent the FMA) were playing a populist political card when they launched their inquiry last year  – in an area where, as even they acknowledged, they had no statutory powers.  After all the hullabaloo, they found basically nothing (not that surprising, given that different context in which banks operate here and in Australia, especially as regards superannuation), but it hasn’t stopped them using the issue to claim some sort of moral authority over these private banks, operating in markets where customers have choice.

But even if there had been something to the conduct/culture issues, surely those were supposed to be about public facing issues, things directly affecting customers.  Whether some small portion of David Hisco’s large expenses bill was questionable, seems –  to say it again –  like a matter for the Board and management of the ANZ, perhaps even for the staff (confidence in the integrity of your leader) but simply not a matter for government agencies at all.

I guess that among the sound and fury on this issue, there will be a range of interests and motivations.  Some will even be quite genuine and public spirited.  But it is hard not to read the coverage of the last few days and think that at least some people are playing distraction.  Banks are never likely to be that popular, perhaps especially not Australian ones (despite the fact that New Zealand benefits from having its bank part of bigger offsore groups) and they make a convenient scapegoat. Perhaps that is especially so when the old enemy of the left –  John Key –  is chair of the bank’s local board (as I’ve written here before, I happen to think it is unfortunate –  at best –  to have former politicians so quickly on such boards).    It shouldn’t have been a great week for the government –  what with the GJ Thompson affair, meningitis injections, and so on –  and it hasn’t been a great time for the Reserve Bank (all that pushback against their unsupported radical bank capital proposals) , and one is left   –  perhaps unduly cynically – thinking that in some quarters there will have been quite an interest in playing distraction by feeding a beat-up on the ANZ, for what really looks to be a rather small, albeit untidy, mostly internal affair.  For me, if they keep my money safe, do my transactions competently, and don’t rort others on any sort of systematic basis, I’ll be pretty content.

Throughout this note, I have stressed that bank customers have choices and alternatives.  Faced with overly powerful, weakly accountable, government agencies, citizens really don’t.     When Peter Hughes gives gushy speeches about Gabs Makhlouf –  the man he is supposedly investigating –  we are stuck with the clubby system.  When a Supreme Court judge thinks it is just fine to go on holiday with a senior lawyer in a case before the Supreme Court, we have few effective protections.  And when the Governor of the (monopoly) Reserve Bank never gives substantive speeches about things he is actually responsible for, plays fast and loose with the Official Information Act, claims he has no resources to properly oversee the bank capital system (internal models and all) that the Bank itself put in place, all while spending a million dollars on a Maori strategy (for a body with little or no public-facing role), devoting his time and professional energies to personal passions, be it climate change, infrastructure, or whatever, there is also nothing we can do about it.  The amounts involved –  money diverted from core functions (under budgetary pressure) to finance the Goveror’s personal causes and whims –  is probably already at least as much as the Hisco case over 10 years.  But we can’t change central banks, can’t dump our shares in the Reserve Bank.  Perhaps these issues (for some reason) excite fewer people, but when the abuses and slippages are by high government officials, they need to be taken much more seriously, precisely because exit isn’t (for us, citizens) an options.  The small(ish) stuff needs to be sweated.

On which note, I saw a piece on the ANZ affair by Auckland lawyer Catriona MacLennan, I very rarely agree with anything she writes, but her final paragraph did strike a nerve.

I have been on the board of a non-governmental organisation for three years. We are not paid a cent for our work, but I and the other board members would consider we had completely failed in our responsibilities if we let unauthorised expenditure go unchecked for nine years.

The Governor, the Bank’s Head of Financial Stability, and the (outgoing) chair of the Bank’s Board Audit Committee, might like to reflect on questions around unauthorised (operational) expenditure over at least as long a time.

A NZ central banker speaks

Next week Adrian Orr will have completed the first quarter of his five year term as Governor of the Reserve Bank.    In that time, he has given no substantive on-the-record speeches on either of his main areas of policy responsibility: monetary policy, or financial stability/supervision/regulation.     That would be highly unusual at any time, but these haven’t been normal settled periods.  On the monetary policy front, the statutory goal of monetary policy has been changed for the first time in 30 years, and the governance structure has also changed, all that amid a backdrop in which the Bank has had to once again change its policy stance, from looking towards OCR increases (in Orr’s first MPS, the interest rate track started rising from about now) towards cutting the OCR yet again.   And on the financial regulatory front, the Governor has proposed what appears to be the largest and most costly discretionary regulatory intervention (the bank capital proposals) since governors were first given prudential regulatory powers.  And the Governor wields all those regulatory powers personally; unlike monetary policy now, decisions aren’t the shared responsibility of a committee.  So it might have been reasonable to have expected several serious speeches from the Governor –  who is, after all, often lauded for his communications skills.

As one benchmark, the Reserve Bank of Australia’s 2019 speeches page already has 23 entries, including four substantive speeches from the Governor.    And the Reserve Bank of New Zealand?    Three speeches this year to date, only one from the Governor, and that was not a substantive contribution on either monetary policy or financial stability.   For the record, the RBA has a narrower range of responsibilities than the Reserve Bank of New Zealand.

But there was a recent speech –  given in Japan –  from one of his deputies, Assistant Governor and General Manager of Economics, Financial Markets and Banking, Christian Hawkesby.   Hawkesby recently rejoined the Bank after stints at the Bank of England and then in the local funds management sector.  He is a direct report to the Governor, and if he doesn’t have the official title of Deputy Governor (for some strange reason –  Wellington government agencies typically being awash with multiple people carrying ‘deputy’ titles), he is the most senior person below the Governor on the monetary policy side of the Bank.  He is a full voting member of the Monetary Policy Committee, so in additional to his staff appointment he is now a statutory officeholder.  His counterparts are people like (Deputy Governors) Guy Debelle at the RBA or Ben Broadbent at the Bank of England.   He is an able and amiable guy, and when he speaks we should be able to expect something pretty substantial and authoritative.   And in his first public speech, on the monetary policy legislative changes, we can be sure he isn’t saying anything the Governor would be unhappy with.

And so it was disappointing, to say the very least, how much political spin suffused the speech, and how lacking in analytical substance it was.  Recall that this wasn’t a speech to (say) a provincial Rotary Club, but to a Bank of Japan conference of economists and central bankers.

The Reserve Bank’s press release for the speech was, however, presumably aimed squarely at New Zealand audiences.    It is full of spin as well.

It begins

The Reserve Bank has significantly changed the way it makes monetary policy decisions, keeping itself in step with public expectations.

There are two problems with this.  The first is that, until rather recently, the Bank was telling us regularly and repeatedly, that the statutory changes (goal and governance) weren’t that significant at all, and really only wrote into legislation the way the Bank has been doing things for a long time (and perhaps built resilience against rare very bad Governors).   Hawkesby’s predecessor told us (and his audience) that when he ventured offshore for a speech last April (after Orr had taken office).

And the second is that the implication is that the Reserve Bank itself made these changes. It didn’t.  Parliament did, at the initiative of an elected government.    The difference isn’t trivial, because the entire press release continues in this vein, suggesting that the Reserve Bank is a principal, not an agent mandated by Parliament for very specific purposes.   Thus

“We maintain our legitimacy as an institution by serving the public interest and fulfilling our social obligations. Keeping our ‘social licence’ to operate depends on maintaining the public’s trust that we are improving wellbeing,” Mr Hawkesby said.

Nowhere does the Act charge the Bank with identifying what is in the “public interest”, or with “social obligations”.  Rather it gives specific responsibilities and powers to the Bank, subject to numerous other laws, and expects the law to be followed.  Parliament might make wise choices, daft choices, or some mix of the two, but the Bank’s job is to follow the law (and, perhaps, to offer advice to Ministers on how the law should be worded).  Oh, and “wellbeing” does now appear in the Act, but not as goal for the Bank to pursue directly but rather as the expected outcome (together with “prosperity” – never mentioned) of the Bank exercising its specific powers for the specific purposes outlined in statute.

The spin continues

“Thirty years ago New Zealand was prepared to accept a single expert – the Governor – making decisions about how to fight inflation. People now expect to see how and why decisions are made, expect that decision makers reflect wider society, and that current issues and concerns are factored into the decision making. By meeting these expectations, we can improve public trust in the legitimacy of the Reserve Bank’s work,” he said.

This is, frankly, pretty bizarre.  For a start, the old Act never required the appointment of an “expert” (and none of those who held office under that legislation really were monetary policy experts).  But, more importantly, as the Bank told us for the previous 30 years –  and as documents at the time the Act was introduced make clear  –  the focus of the earlier legislation was squarely on transparency and accountability.    (I happen to think the new legislation is an improvement, but not on the “how and why decisions are made” front.)

And then we get the burble about “decision makers reflect wider society”.   I’m not sure quite how a committee of seven middle-aged economists  –  and if these things matter to you, not one Maori –  quite meet that criterion, but perhaps one day the Bank will explain.

But what worried me more was the claim that “people” (who, specifically?) “expect…that current issues and concerns are factored into the decision making”.    Personally, I hope that all decisionmakers in all statutory bodies exercise their powers under the law, taking into account factors they are supposed to consider, and not bringing extraneous personal agendas to the table, hijacking public office as a platform for personal political causes.

I largely agree with the next paragraph

Mr Hawkesby outlined the new committee process that the Reserve Bank uses for deciding the official cash rate, noting that diversity among decision makers improves the pool of knowledge, insures against extreme views, and reduces groupthink.

(which is why I was championing a committee model, including outsiders, when the Reserve Bank was – until quite recently – opposed).  But this is what Hawkesby – and presumably Orr –  think we need a monetary policy committee for

“This diversity is needed to confront issues such as climate, technological, and other structural and social changes,” he said.

If you think –  as I do – that climate change is, at most, of peripheral relevance to the Bank’s financial stability functions, it is of no real relevance at all to monetary policy at all.  One could say much the same of “social changes” (what did he have in mind?) or even “technological changes”.  Now, to be sure, there is an old line of argument that the Reserve Bank needs to be aware of anything that might materially alter neutral interest rates or the neutral unemployment rate, but even to the extent that is so, the issues and challenges are no different than they have ever been –  in fact, the issues the Bank currently has to be aware of (around monetary policy) are almost certainly much less broad in scope than those it faced 30 years ago, when the Act came into force, in the midst of successive waves of extensive waves of micro reform.

The press release ends with this piece of politics.

He also said that collaboration with government can be undertaken in a way that maintains the Reserve Bank’s political independence while working on the broader objective of improving wellbeing.

It is simply not the Reserve Bank’s job to range more broadly, assisting the government with its partisan agendas, even if the individuals involved happen to be left-wing themselves.  To repeat, the Act is very clear that the Bank does not have an all-embracing goal of pursuing “wellbeing”, but is specifically charged with using its monetary policy powers to achieve and maintain price stability and “support” maximum sustainable employment.

The body of the speech –  with much more space for qualification –  is no better, and is arguably worse.  There are ahistorical claims (notably, that the previous Act brought down inflation from “around 20 per cent” –  inflation was about 5 per cent when the law was enacted).    And the nonsense suggestion that only now do people realise that low inflation is not an “end it itself”.

And never once do you see any reference (even politely) to the fact that the law was amended by Parliament as the outcome of a political process –  notably, a Minister of Finance who, in Opposition, needed some product differentiation (both from his National opponents, and from the ideological enemies formerly in his own party –  the reformers of the late 80s) but who always seemed more interested in cosmetics than in substance.  In fact, one never even sees the point the Minister often made –  and which Hawkesby’s audience of central bankers must have been well aware – that the recent legislative changes just bring the New Zealand legislation a bit closer to the (very longstanding) legislation in the US and Australia.    Instead we get this vacuity

Our policy framework changed because times are changing. For the Reserve Bank to maintain its credibility and relevance, we must change too.

And there is the incoherence of championing the record of the last 30 years, all while claiming that “a sole decisionmaker or uniform committee cannot possibly hope to possess the broad range of insights necessary to consider these issues” (climate change and social change again).    And the seeming blind spot about the utterly crucial nature of what a committee can bring…..and yet at the same time, the bank capital proposals rely wholly on a decision by one individual, the same individual championing the change.

There is questionable stuff throughout the speech, but this one near the end caught my eye,

There is emerging consensus that coordination is necessary for an optimal response of broader macroeconomic policy.16 For central banks, operational independence does not have to mean operational isolation. Rather, collaboration with government can be done in a way that builds and reinforces the social licence to operate, by showing a willingness to work with other partners to do whatever is necessary to achieve the broader objective—improving public wellbeing.

More politics, more wellbeing spin, but it was that footnote that I lighted on, apparently supporting the surprising claims of an “emerging consensus the coordination is necessary” for macro policy. I was intrigued and wondered what I’d missed.  When I looked more closely, the reference was to a short recent comment by economic historian Barry Eichengreen and it wasn’t an argument for more coordination at all.  Instead, it simply observed that in many countries monetary policy appeared to have more or less reached its limits and thus that fiscal policy might be much more important in future.

But nominal interest rates can’t be forced much below zero. And monetary policymakers, for their part, seem unable to push inflation above 1-2% in order to drive down real interest rates. Investment demand therefore tends to fall short of saving, creating a risk of chronic underemployment.

In this case, the argument for additional deficit spending to supplement deficient private spending is stronger, because there is less risk of crowding out productive private investment. This does not mean that the scope for running deficits is unlimited, because at some point safe government debt could be re-rated as risky, causing interest rates to rise. That said, these arguments lead to a straightforward conclusion: in the future, we will have to rely more on fiscal policy and less on monetary policy to achieve stable and equitable growth.

You might or might not agree with Eichengreen, but you simply cannot read him –  as Hawkesby attempted to represent him –  as making a case for more coordination of policy.  If anything, it is more a case for the growing irrelevance of central banks (a claim one can agree with or not).   It was either careless or dishonest to present it otherwise. I prefer to believe careless, but the Bank should be better than that.

And who knows what Hawkesby’s expert audience made of the final couple of paragraphs of the speech

And it is not enough to grudgingly adapt. In order to maintain credibility, central banks must embrace change and prove to the public that they are capable of delivering on their objectives. To remain credible is to remain relevant. Central banks should keep their eyes open, and be ready to change tack. Our destination—a world with improved wellbeing for our citizens—may not change, but the best route for getting there may.

We must adapt. We must continue to improve the wellbeing of our citizens. We must remain credible.

Rhetorical burble that was really a substance-free zone.

Speeches by good (economics) deputy governors of advanced country central banks –  eg Debelle and Broadbent, and their Canadian counterparts, or some of the economist heads of regional US Federal Reserves –  are often well-worth reading.  They typically contain and reflect serious economic analysis, and help create confidence in the robustness and depth of the institution itself.  Sadly, this first speech by Hawkesby fells well short of that standard –  and the gap is the more noticeable given the stature of the audience he was speaking to.   Credibility does matter, but if they are to be taken seriously the MPC (Orr, Hawkesby and the rest) will need to be making rather more serious and substantive –  occasional –  speeches than what was on offer this time round.

One can mount an argument that in the last year or two the Reserve Bank of New Zealand’s actual monetary policy calls have been a bit better than those of the Reserve Bank of Australia, but without a sense of a robust underpinning –  serious sustained analysis, and articulation of that reasoning, and of how they understand the economy –  we can’t have any confidence in the robustness of the institution, or that better calls have been any more than dumb luck.

 

 

 

Two charts

Reading the papers yesterday for a forthcoming meeting, and as “reward” for getting to page 200 (or thereabouts), my eye lit upon (a version of) this chart.  Here I’m showing quarterly data.

bond yields nz and jap.png

It was a salutary reminder of the days –  must have been around 1998 –  when JGB yields first fell materially below 2 per cent.  I was responsible for the Reserve Bank’s markets monitoring unit at the time, so we paid a fair amount of attention to this stuff.  One of my young staff and I spent hours discussing the possible opportunities for shorting JGBs.  After all, everyone “knew” that long-term bond yields couldn’t stay that low for very wrong.    Fortunately we never put the trade on, but in the intervening 20 years I’m sure many people have at various times.  The 10 year Japanese government bond yield today is -0.05 per cent.

It was a New Zealand based outfit –  Melville Jessup Weaver – that did the chart I saw, but here is a version with Australia added.

bond yields aus

And, as a reminder, Australia and (even more so) New Zealand have long had the highest real interest rates in the advanced world.

The point of the chart in the article I was reading was to make the point that further, perhaps quite material, falls in New Zealand bond yields are not impossible.  It isn’t even as if Japanese bond yields are that much of an outlier: German 10 year bond yields are also slightly negative (and Germany has had one of the strongest performing advanced economies in the last decade or so).

What could take New Zealand bond yields much lower?   Well, I’ve argued for years now that the biggest single factor explaining why New Zealand real interest rates are so much than those in other advanced countries is our policy-driven rapid rate of population growth: savings rates are modest, and resource demands for a rising population are large, and high real interest rates (and a persistently high real exchange rate) reconcile those two ex ante pressures.  Cut the non-citizen immigration target as I’ve recommended and I would expect to see considerable convergence.  That would be good for our productivity and business investment prospects.

And, of course, the other (much less favourable) scenario is the next serious economic recession.   Simply cutting the OCR to (say) -0.75 per cent (about as low as people think it could feasibly go) wouldn’t of itself immediately result in near-zero bond yields –  indeed, as was the case in 2008/09 globally, aggressive policy rate cuts help create an expectation that rates won’t be low for long. It was a couple of years after the 08/09 recession before markets really started pricing the idea that low short-term rates might hang around.  But whereas in 2008/09 most central banks could cut policy rates by 500 basis points, if the next recession happens in the next couple of years most advanced country central banks won’t have even 200 basis points of conventional policy space (the Fed a little more, and most in Europe much much less).  And markets will recognise that limitation quite quickly, and begin to price conventional government bonds accordingly.   Even in New Zealand (or Australia) conventional nominal bond yields could quite easily go to 50 basis points or less.

As I noted yesterday, the Governor keeps on with his cavalier tone that there is nothing to worry about and the Bank has lots of potential tools –  the sort of exceptional stuff all sorts of other countries did after the last recession when they reached their effective lower bounds on nominal interest rates.   Sentiment at the BIS in Basle might be a bit different –  they aren’t responsible to any voters, or for any excess capacity/unemployment –  but I doubt there would be any policymaker in any advanced country who could look back on the last decade with equanimity, and not wish they’d had the tools available to lower the unemployment rate faster.  After all, almost nowhere was rising inflation an inevitable constraint.  New Zealand is better placed than some countries, in having a floating exchange rate, but (for example) the UK had one of those too.

The second chart I noticed in the last day or so was this one from the Reserve Bank’s Monetary Policy Statement.

job finding

I’m not entirely sure how they derive this measure –  there must be a research paper online somewhere, which I will try to track down –  but it is cited as evidence that “employment is near its maximum sustainable level”.    The text focuses on the rising trend last year, but in making that comment the authors of the Monetary Policy Statement (for which the whole MPC is presumably responsible), the authors appear to have ignored the rest of the chart.   After all, on this measure less than half the ground lost during the last recession has been recovered (and that incredibly slowly) and –  even allowing for the fact that the peak of the last boom was unsustainable –  the current value of the indicator is still not back to where it was in 2002 or 2003, when nobody (at least as I recall it) would have thought of labour as fully employed.

There does seem to be something of a tension in the Bank’s analysis and official rhetoric.  If labour is really fully-employed (in that weird statutory formulation “maximum sustainable employment”) as they have been saying for the last year –  through upside and downside OCR biases –  why are they cutting the OCR?  More plausibly, a lower OCR would allow the economy to run a bit more strongly, unemployment a bit lower (and, per the chart, people who lose jobs finding a new one more quickly), with the not inconsiderable bonus (given the statutory mandate) of a higher inflation rate.

On which note, one hears that the Reserve Bank’s research function has been  substantially gutted, with several recent resignations in recent months from among their best-regarded and most productive researchers (and the manager of the team left this week and is reportedly not being replaced).    The Bank’s research function once played a very influential part in policy and related thinking, but that is going back decades now.   Even with a Chief Economist who himself had a strong research background, the research team never quite found a sustained and valuable niche in recent years, even as some individual researchers have generated some interesting papers, often on topics of little direct relevance to New Zealand.  One of the most notable gaps is that the Bank has become increasingly focused on financial stability and financial regulation, and yet little or no serious research has been published in those areas of responsibility (a senior management choice).  That weakness has been evident in the recent consultation document(s) on bank capital.

One can always question the marginal value of any individual research paper, but we should be seriously concerned if the Reserve Bank under the new wave of management is further degrading the emphasis on high quality and rigorous analysis.  Apart from anything else, a good grounding in research has often been the path through which major long-term contributors to the Bank have emerged, including former chief economists (and roles more eminent still) Arthur Grimes and Grant Spencer.   I see that the Governor is delivering an (off the record) talk at the New Zealand Initiative today: perhaps someone there might like to ask just what is going on, and what place the Governor sees for a research function in a strongly-performing advanced country central bank.  Not even he, surely, can count on Tane Mahuta for all the answers.

 

Another of the Governor’s whims

I was chatting to someone yesterday about what was behind the undisciplined, highly political, way in which Reserve Bank Governor Adrian Orr has taken to the job.  My interlocutor reckoned Orr might have his eye on a high place on Labour’s 2023 list (“doing a Brash”).  I was a bit sceptical –  he’d be about 60 and Jacinda Ardern about 43 –  but then I guess this is the era where a youngish (only 72) Trump could be facing off against either Bernie Sanders (77) or Joe Biden (76).   I still doubt Orr has a conscious personal party political goal in mind –  and if he did, it would be highly inappropriate for him to be serving as Governor –  and suspect it is mostly about revelling in being a big fish in a small pond, the opportunity to strut his personal ideological commitments using a statutorily provided (and funded) bully-pulpit to do so.    By comparison, the basics of the day job must seem rather technocratic and dull –  hence, no doubt, why we’ve had no public speeches about either monetary policy or financial regulation.   Anyone seen any sign of developed Reserve Bank senior management thinking about, for example, handling the next serious recession –  starting from an OCR of 1.75 per cent or less?  Thought not.   Or, for that matter, robust and honest articulations of the case for much-increased minimum bank capital ratios.

Instead we hear him on all sorts of stuff that is no part of the responsibility of the Reserve Bank.  There is infrastructure, thinking long-term (in the Governor’s view he apparently does, but we don’t, think long-term enough), and lots and lots on climate change, all entirely predictably left-wing (not even interestingly left wing) in nature.  Oh, and of course there is the tree god nonsense.   There are only so many hours in the day, so time spent on this stuff – and time spent getting his staff to do it –  is time not spent on core business.  And this from an institution that claims to be underfunded.

Early last month, I wrote a post, Other People’s Money,  prompted by a newspaper advertisement from the Bank for a “Cultural Capability Adviser Maori”.   I noted then

So what is he up to with his “Te Ao Maori strategy…designed to build a bankwide understanding of the Maori economy”?  Given his statutory responsibilities –  and those in charge of public agencies are supposed to operate constrained by statute – what makes the so-called “Maori economy” any different than the “European New Zealander economy”, the “Asian economy”, the “British immigrant economy”, the “Pacific economy” and so on, for Reserve Bank purposes and policy?

The Bank’s claim is that this new understanding will “enable improved decision making…about monetary policy and financial soundness and efficiency”.   Yeah right.

I lodged an Official Information Act request for material relating to the decision to create this position, including “any material covering the estimated costs and benefits of such a position”.

It took them a while –  more than 20 working days –  to respond but I eventually received 25 pages of material.    There was, of course (this is the Reserve Bank after all), no cost-benefit analysis, and more remarkably there was no mention (explicit or implicit) of any opportunity cost of the resources devoted to the Governor’s latest whim.  It is as if the Bank thought it had more or less unlimited resources and no clear need to prioritise –  I guess that is what using other people’s money, in an institution with very weak external budgetary controls can come to.

The direct financial costs were outlined –  almost a million dollars over three years, and a couple of hundred thousand a year thereafter (about as expensive as slushy machines for prison officers, and at least someone gets some benefit from those).  A million here and a million there and pretty soon you are talking serious money.

And all this for an organisation that, of all those in the entire public sector, must have the least compelling need for a Maori strategy (for this cultural capability adviser is only one bit of the wider strategy).   As a reminder, these are the key Reserve Bank functions

  • the Bank issues bank notes and coins.  That involves purchasing them from overseas producers, and selling them to (repurchasing them from) the head offices of retail banks;
  • it sets monetary policy.  There is one policy interest rate, one New Zealand dollar, affecting economic activity (in the short-term) and prices without distinction by race, religion, or culture.  Making monetary policy happen, at a technical level, involves setting an interest rate on accounts banks hold with the Reserve Bank, and a rate at which the Reserve Bank will lend (secured) to much the same group.  The target – the inflation target, conditioned on employment (a single target for all New Zealand) – is set for them by the Minister of Finance.
  • and it regulates/supervises banks, non-bank deposit-takers, and insurance companies, under various bits of legislation that don’t differentiate by race, religion or culture.

The Bank has chosen to put some decorative Maori motifs on the bank notes it issues, but that is about the limit of it.

Sure, there is a handful of other functions.  They can intervene in the foreign exchange market (one dollar for all), and they operate a wholesale payments system (NZClear), but it doesn’t  alter the picture.  There is just no specific or distinctive European, Maori, Pacific, Chinese, Indian or whatever dimension to what the Bank does (or what Parliament charged it with doing).  I looked up the list of institutions which are members of NZClear, and (unsurprisingly) there was not a single specifically Maori one  (Swiss, German, Indian, American, British, Tongan, Fijian, Sri Lankan  –  those last three other central banks –  and so on).

The Reserve Bank is essentially a “wholesale” institution.  The actions the Bank takes affect all of us to some degree or other, and so they need to open and accountable in communicating what they are doing, but it just isn’t the sort of agency that has a direct client base (or clients with culturally specific issues relevant to its statutory responsibilities) where race, culture, ethnicity, or whatever is an important consideration.  And so the million dollars –  and all the uncosted staff time –  is just money down the drain, advancing the Governor’s personal ideological and social whims, not the statutory responsibilities of the Bank.

There is a great deal of unsupported nonsense in the document.  But it starts here

TAM 1

And here is one of the key sets of deliverables

TAM 2

Which is, itself, a grab-bag of unsupported stuff.   “More assured forecasts” would, of course, be great, but from an institution whose inflation forecasts have been wrong (one-sided bias) for eight or nine years now, doing the core job more accurately seems rather more important.  The documents never suggest how their better understanding of “the Maori economy” will improve the forecasts –  as distinct perhaps from making the Governor feel better about them.

Notice too that reference to “the Maori economy”: not only is $50 billion rather less than one-sixth of GDP, but the $50 billion they are talking about is a collection of assets (a tiny portion of total assets of New Zealanders), and GDP is a collection of income flows.   Since Maori are a significant chunk of the population, I’m sure they do make up quite a share of the economy, but most assets owned by Maori people aren’t included in that headline-grabbing number (any more than my house is in some “European New Zealander economy”).

There is a similar degree of vacuousness about the references to the financial system.  It all the feel of someone making stuff up to backfill another of the Governor’s whims.

What of some other stuff. Among the responsibilities of the cultural capability adviser this was listed first

Lead development and implement an institutional language plan for the Reserve
Bank of New Zealand

You do rather get the sense, reading through the documents, that Reserve Bank staff will be under pressure to learn Maori whether they want to or not.  Again, perhaps there might be merit in that if the Bank were a customer-facing body dealing with (say) troubled families in the Ureweras, but this is the (wholesale) central bank.

I don’t suppose anyone (perhaps other than the Governor, and probably not even him –  he’s smarter than that) really believes the nonsense front line rhetoric about better policy.   It all seems much more about these “deliverables”

TAM 3

In other words, how “woke” can we be?

It is all pretty incoherent.  For a start, there is that reference to the ‘growing multicultural nature of New Zealand”, and yet this is an explicit Maori strategy, with no hint of comparable ones for Chinese cultures, Indian cultures, South African cultures, Filipino cultures, Samoan cultures…..let alone, Muslim, Christian or atheist cultures.     Another $1m for each perhaps? I thought not (and nor should there be).

Perhaps all this stuff will go down well among some in the Labour Maori caucus, in the further reaches of the Green caucus, and among some of those the Governor will be distributing largesse among.  Perhaps Guyon Espiner will be a bit softer next time he interviews the Governor.  But I find it harder to believe that this sort of strategy is going to, in any way, enhance the Bank’s standing in middle New Zealand.  And nor should it.   As for staff, I suspect there will be a selection process at work (perhaps a bit like the Treasury) – capable people who care more about serious analysis and policy (actually doing the Bank’s statutory job) will select out (or not be hired) and the place will increasingly be filled with cheerleaders for the Governor’s political and social agendas.

I don’t usually like to scoff at overseas travel budgets – there is often real value in building connections and relationships –  but I had to in this set of documents.  $40000 for international travel for a Maori strategy, when Maori culture has no substantial home but New Zealand, seeemed, shall we say, not exactly an abstemious use of public money.

Here is a graphic for the Governor’s Maori strategy

TAM 4.png

The writing is a bit hard to read, but it is just full of earnest trendy, rather unsubstantiated, feel-good stuff.  Unconscious bias holds back the Bank’s policy outputs we are told.  It would be fascinating to see the evidence base for that, including (for example) why it was an issue around Maori dimensions of the economy/financial system and not, say, Chinese, Indian or Fililpino bits.   Fortunately, monetary and banking policy operate  indiscrimately (in the good sense of that terms) –  there is, for example, precisely nothing the Bank can do that will affect long-term unemployment at all, let alone differentially affect that of Maori.  It is all a political front, using your money.   But –  bottom right corner –  no doubt the Governor and has staff will be self-actualising in a humanistic way.

(Oh, and recall that that island –  pictured in the top right hand corner –  isn’t even New Zealand, but Bora Bora –  the Maori strategy moving the Bank towards French Polynesia!)

I could go on, but I’ll leave it to anyone interested to plough through the verbiage (“we will actively seek to operate within the virtuous circle of sustainable economic development”, or references to “Cultural Security” – did this get lost from an MCH document?) and the rather non-questions (“Do Maori use cash differently to other people groups?” –  perhaps Catholics, atheists, Freemasons. Green Party supporters, or lefthanders do as well, but why would we want to spend scarce public money to find out?).

One of the points former Bank of England Deputy Governor Paul Tucker made in his book, Unelected Power, that I wrote about quite a bit last year, is that when central bankers start pursuing issues that range well beyond their narrow areas of specific responsibility, they run a real risk of undermining the willingness of the wider community to let them (fallible individuals, with limited accountability) exercise the discretionary power in their core responsibilities.  Sometimes people will agree with the errant central bankers on individual issues –  I often agreed with the substance of what Don Brash was saying when he strayed off-reservation, even as I thought he was very unwise to do so –  but over time it leaves a growing proportion of the population uneasy about overmighty public officials using platforms and money provided by all of us to pursue personal whims, personal social and political agendas.      If we can’t have a central bank that (a) sticks to its knitting, and (b) does that knitting excellently, we might as well just hand all the powers back to the politicians.  We elected them and can kick them out again.  We just have to put up with the Governor pursuing his whims at our expense, with very few effective constraints.

 

An expert weighed in on Reserve Bank reform

I was exchanging notes last week with someone who is doing research on New Zealand economic policy, and the development of economic institutions, in the 1980s and 1990s.  In the course of that conversation he sent me a copy of interesting short paper –  presumably obtained from the national archives –  from the period when the thinking and debates that led to the Reserve Bank of New Zealand Act 1989 were underway.

Reform of the Reserve Bank had been in the wind for some time.  Loosely, the Reserve Bank tended to be keen on an independent central bank, and recognised that some accountability procedures would be part of the price of that.  On the other side of the street, the Treasury was keen on an accountable and efficient central bank.  Neither institution –  nor the key ministers at the time –  wanted the Minister of Finance to be determining day-to-day monetary policy. (Ministers determining policy adjustment had been the standard practice, by law, for decades – and it was the practice at the time in most western countries, the exceptions being Switzerland and West Germany and (more or less) the United States.)   Everyone involved wanted a much lower average inflation rate than New Zealand had had in the 1970s and 1980s.

The Treasury was heavily involved in work on reshaping the institutional form of much of what central government did.   Of particular relevance was the new state-owned enterprises (SOE) model, adopted for many/most government trading enterprises (NZ Post, for example, is still with us today).    The Reserve Bank, then as now, was a somewhat anomalous organisation and part of the – at times – acrimonious debate between the Reserve Bank and the Treasury over several years reflected the idiosyncratic nature of the institution, and differing views over what parallels or comparators were relevant.    For example, were banknotes or the retail government banking operations, or the sale of government bonds really just commercial activities really just commercial activities.  And might the (apparent) policy goals be achieved better in an organisation given more commercial incentives.

At one end of the spectrum was a proposal out of The Treasury in late 1986 to turn the Reserve Bank into an SOE (it was never quite a final Treasury proposal, but was written by a senior Treasury adviser and taken seriously as the highest levels of The Treasury.  For anyone interested, you can read more about it in Innovation and Independence, the 2006 history of the Bank (bearing in mind that that history was very much written from a Reserve Bank perspective, one of the authors not only having been an active protagonist in the late 1980s debates but at the time of writing serving as chair of the board of the Reserve Bank).

The proposals were stimulating, far-reaching (including allowing for the Reserve Bank to be declared bankrupt and statutory managers appointed) and –  in the views of probably all Reserve Bankers involved at the time (and in my view now) –  quite unrealistic, and failing to really grapple with the reasons for having a central bank at all.  I am one of those who believes that the economy and financial system could function adequately without a central bank –  although on balance I think a central bank can improve our ability to cope with severe shocks –  and in many respects the logic of the Treasury position might have been better developed into a proposal to explore whether we could do without a central bank altogether.  But they didn’t.  (Had the Bank been abolished, my position –  then and now –  is that New Zealand would fairly quickly have become a de facto part of the Australian dollar area, with monetary conditions influenced by the RBA with Australian perspectives in mind.  That is probably clearer now than it was then –  in 1986/87 only Westpac and ANZ of the larger banks were Australian owned.)

But the point of this post isn’t to rehearse all the old debates. I was overseas on secondment at the time, and only got involved in the debates (which lingered in various forms for several years, even after the Reserve Bank Act was passed) a bit later. But I was intrigued by this one particular paper I was sent last week.

The Reserve Bank has received the “Reserve Bank as SOE” proposal in November 1986.  At the time, the Reserve Bank Board was the decisionmaking body for the Bank itself (although not on monetary policy, which was in law set by the Minister).   The Board asked management to obtain independent expert analysis and advice on the Treasury ideas and for their March 1987 meeting the Board had in front of it a six page commentary from Professor Charles Goodhart.

Goodhart is one of the more significant figures in the last 50 years or so in thinking and writing about central banking.   At the time, he was Professor of Money and Banking at the London School of Economics and had previously served as Adviser to the Governor of the Bank of England.  He had relatively recently published an influential book The Evolution of Central Banks: A Natural Development? (and had been the star guest, and guest lecturer, at the Reserve Bank’s somewhat-extravagant 50th anniversary celebrations in 1984).  Goodhart was very smart and thoughtful, but well-disposed to a traditional (British) view of central banks.

A decade later, Goodhart served as one of the first members of the UK Monetary Policy Committee, after the newly-elected Labour government in 1997 gave the Bank of England operational independence in the conduct of monetary policy.  But in 1987, the Bank of England was, to a considerable extent, the executing agent for the policy choices of the Chancellor of the Exchequer –  the Chancellor being advised by both the Bank and the Treasury, and typically being closer to The Treasury (in the UK ministers have their offices in the department for which they are responsible, not something akin to the Beehive).  It is worth noting that by 1987 the UK had successfully lowered its inflation rate very substantially (the UK inflation record in the 1970s had been, if anything, worse than New Zealand’s).

It is perhaps also worth noting that when the Reserve Bank of New Zealand Bill was finally brought to Parliament in 1989, Goodhart played an important role in providing public support (including FEC testimony) for the chosen model.  Part of that involved providing an academic counterweight to the New Zealand academic (macro)economics community, most of which, at very least, sceptical of the legislation.

But that was 2.5 years later, long after the notes for the Reserve Bank Board had been written.  In those notes, Goodhart’s stance –  while useful to the Bank in countering Treasury – was very different to the legislation he later provided public endorsement to.

The first half of the paper (history and theory) is interesting, but not particularly controversial for these purposes. But the second half is about “policy conclusions”, drawing from an analysis that was generally in favour of (a) discretionary monetary policy, and (b) a central bank not influenced by profit-maximising considerations.

Here is his view on who should do what

goodhart 1

Get the Minister of Finance further away from the conduct of monetary policy and let the Reserve Bank itself decide what rate of inflation to target.  (This was more than year before “inflation targeting” itself became a thing, and was presumably just about setting a broad direction for policy –  in New Zealand at the time there was, for example, beginning to be talk about “low single figure inflation”).

I don’t suppose that idea went down overly well with his Treasury readers (including the Secretary to the Treasury who was then a member of the Board).

One of the later mythologies that developed around the Reserve Bank Act (over the years we spent a lot of time rebutting it) was that the Governor’s salary was tied to the inflation target.  It never was.    But until reading this paper I hadn’t realised where the possibility of making such a link had come from.  Here is Goodhart, talking about accountability.

goodhart 2.png

Wow.  At this stage, there was still no sense of making the Governor the single decision maker, but a leading academic writer on central banking was seriously proposing not just that the Reserve Bank should be able to set a target rate of inflation for itself, but that a range of key executives should be partly paid in the form of options that would pay off if the target was met.    He doesn’t seem to notice, for example, the distinction between a private business (operating in a market it can’t control) and a public agency able to do whatever it takes, at whatever short-run cost, to achieve a target rate of inflation.

At the time, there was still a presumption that decisionmaking at a reformed Reserve Bank would be made (ultimately) by the Board –  as, of course, responsibility in SOEs and many other Crown agencies rested with the respective boards.  The Board was largely non-executive (Governor, Deputy Governor, Secretary to the Treasury plus other members appointed by the Minister) and Goodhart moves on to discuss the issue of whether non-executives could be involved in monetary policy decisions.

good3

good 4

Reasonable points in some respects (how to manage potential and actual conflicts has been an issue even in the recent appointment of members of the new MPC), although note that in Australia the Reserve Bank of Australia Board –  which sets monetary policy –  is very similar in composition to the way the RBNZ Board was in the 1980s.

Perhaps more interesting is about the qualms Goodhart has –  in early 1987 –  about the case for an independent Reserve Bank, in particular around the case for a more active coordination (at least in some circumstances) of fiscal and monetary policy.

good5.png

good7

Goodhart’s paper ends with this paragraph.

good8If you were generous, you could interpret the final Reserve Bank of New Zealand model as looking something like that paragraph.  Unlike the Bundesbank, the Reserve Bank of New Zealand never had the power to set any specific policy objective for itself, and there was explicit override provisions built into the legislation allowing the government to (temporarily) override the agreed (Governor and Minister) policy targets.  But this paragraph sounds a lot more like the Bank of England in the 1980s, than the case made in public for the Reserve Bank of New Zealand Act 1989 (much of which was about having as few residual powers for  Minister as was consistent with getting the legislation through the Labour Party caucus).

In fairness, the Bank asked for these comments from Professor Goodhart at relatively short notice. On the other hand, he was at the time a leading academic writer in the area, and a former senior practitioner.  And so I am still struck by the conflicting strands of thought that one finds in this short paper –  on the one hand, the idea of options to reward senior central bank staff for meeting a target they might specify themselves, and on the other a real concern about the potential disadvantages in separating fiscal policy too far from monetary policy, and thus some ambivalence about too much operational autonomy for the Reserve Bank at all.

Having said all that, in a way what struck me most about the Goodhart paper is what wasn’t there.    The UK’s disinflation experience in the 1980s had a wrenching one.  Economic historians will still debate the contribution of monetary policy to the peak of three million people unemployed, but no one seriously doubts it played a part.  At the time, there hadn’t been many economywide costs to the degree of disinflation New Zealand had so far managed –  the credit boom and stock market excesses were still in full swing-  and for a time that was to induce a degree of complacency among New Zealand advisers (I recall a meeting I was in perhaps a year or so later at which the then Deputy Secretary to the Treasury was telling the IMF about how modest he expected the costs of disinflation to be –  the head of the IMF mission politely begged to differ).

But in this paper there is no mention of output costs at all  – either those associated with getting inflation down to a much lower average level, or the short-term deviations of output from potential that would come to play such a large role in central bank thinking in subsequent decades.  Just none.  It is quite extraordinary  (and thus when Goodhart talked about tying staff pay to the inflation target, no sense of the political impossibility of giving central bankers financial bonuses for actions that would, at least temporarily, raise unemployment –  even if one could accurately and formally specify a binding target for the life of the options he proposed).

What of Reserve Bank staff ourselves?  From mid-1987 I was Manager of the Monetary Policy (analysis and advice) section at the Bank, and thus quite heavily involved in clarifying what it was we were going to target, how and when.   If memory serves, I think many of us were probably too complacent, perhaps a little blind, around the short-run issues, and tended to work on an over-simplified mental model in which once inflation was lowered to target all we really had to worry about were things like oil price shocks or GST adjustments (we didn’t explicitly – and probably not implicitly –  think much about significant positive or negative output gaps developing).

On the costs of disinflation itself, we were (on the whole) more realistic, but to some extent that depending on the individuals.  There were “battles” between what might loosely be called “the wets” and “the dries”, the former tending to emphasise the transitional costs and the latter the medium-term goal.   Some of the wets (I was mostly of the other persuasion) probably doubted that the 0 to 2 per cent inflation target, adopted in 1988, was really worth pursuing.  Perhaps what united us was a belief that a lot of other reform –  greater fiscal adjustment and more micro reform –  would reduce the costs of getting inflation sustainably down.

Some 20 years ago now I wrote a Bulletin article on the origins and early development of the inflation targeting regime.  In that article, I tried to capture some of competing models that influenced the legislative framework (a funny mix of independence –  not trusting politicians –  and accountability –  not trusting officials and having ministers hold them to account). I also reported some extracts from some of the papers we wrote (I often holding the pen) as the target came together.    From one early and somewhat ambivalent paper (and I can’t recall why shipping got so much attention that month)

Moreover, the Bank noted that “the potential improvements in living standards to be derived from more rapid and complete removal of import protection, and the deregulation of such grossly inefficient sectors as the waterfront (already under
way) and coastal shipping, far outweigh the real economic benefits of slightly faster [emphasis added] reductions in inflation”. In an early echo of what later became a dominant theme in subsequent years, the Bank argued that if price stability was to be pursued over a relatively short time horizon, everything possible needed to be done at least to try to influence expectations and wage and price-setting behaviour.

This post isn’t about having a go at Charles Goodhart, The Treasury, the Bank, or me and my colleagues who were working on some of this stuff at the time.   Mostly, it is just about history, and the sober perspective that history often provides –  things that seemed clear at the time seem less clear with the perspective of time, and some things –  that one later realises are really quite important –  that hardly get attention at all.  If it is an argument for anything, it is probably for more open and deliberative government and policy development processes, perhaps even for incremental and piecemeal (in Popper’s words) reform.   That probably never appeals to reformers –  perhaps especially not young ones  –  and perhaps there are occasions when it can’t be (practically) the chosen path, but blindspots are all too real.

As for the Reserve Bank Act 1989, if there were mistakes and weaknesses in its design (most especially the single decisionmaker model), it did probably serve New Zealand fairly well for several decades.  It was, almost certainly, superior to the Atkinson/Treasury scheme.   And yet one can also overstate the difference legislation really makes –  Australia having made a similar transition to low and stable inflation under legislation still much as it was first passed in 1959.

 

 

 

The Reserve Bank tries to explain wages…..or not

On Friday afternoon an email turned up from the Reserve Bank of Australia with this simple message

Draft copies of papers presented at the Reserve Bank of Australia 2019 Conference – Low Wage Growth – held from 4 to 5 April 2019 have been published on the Bank’s website.

That looked interesting, so I clicked on the link to the papers and found that the very first one was by a Reserve Bank of New Zealand author – not just a junior researcher, but someone who is now manager of their (economic) modelling team.   The paper had the title “New Zealand wage inflation post-crisis” which, of course, immediately grabbed my attention.   I’ve written quite a bit here about wages in New Zealand, including (in recent months) here and here.  My take has been that, if anything, wage growth in New Zealand has been surprisingly strong, given the weakness of productivity growth (most especially in the last five or six years).

There is some interesting material in the Reserve Bank paper, including the use of the highly-disaggregated data available from Statistics New Zealand’s IDI and LBD databases (my reservations of principle about them are here).  For example, the author looks at the possible contribution of industry concentration.  In the US context,

Recent commentary has highlighted the role that industry competition may play in suppressing wage inflation. The hypothesis is that firms in very concentrated industries can act as a monopsony buyer of labour, and therefore suppress wage inflation through their market power.

But

First of all, industry concentration has actually decreased in New Zealand over the past two decades (figure 11). This is in contrast to developments in the United States.

HH index

That apparent reduction in concentration surprised me a little, but it isn’t my area at all.  The author goes on to note

To account for the potential for different characteristics of workers in different industries, we have matched workers in high and low concentration industries across a range of other characteristics. Figure 12 presents the wage growth differential for matched individuals in the 2011 cohort. The figure shows that, when accounting for the different characteristics of employees across industries, those in concentrated industries tend to see slightly higher wage growth than those in more competitive industries.

Interesting, but (as they note) experimental.

But right through even that discussion, the author starts from the presumption that there is a puzzle to explain, in the form of low wage inflation.

As a reminder, this chart shows cumulative increases in New Zealand wage rates relative to cumulative growth in nominal GDP per hour worked.  A rising line suggests that, on this measure, wage rate increased faster than (loosely) the earnings capacity of the economy.

lci wages vs gdp

(Nominal) wages have been rising faster than (nominal) productivity, and there is no very obvious difference between the trend in the years running up to the 2008/09 recession and those since.

Not inconsistent with that is the labour share of total GDP, which has held up considerably more here (in the last 20 or 30 years) than in many other advanced countries.

labour share 2018

But not a shred of this appears in the Reserve Bank’s conference paper.   In fact, the thrust of the paper is such that it appears that they mostly see wage inflation and CPI inflation as the same thing, and so the paper falls back on the lines they’ve been trying to run for years as to why inflation has been so low (hint: because monetary policy was, on average, a bit tight).

This is from the Abstract

Nominal wage and consumer price inflation have been subdued in New Zealand post crisis, particularly since 2012. This paper discusses a number of candidate explanations for these muted nominal wage inflation outcomes. The most notable explanations include: a gradual absorption of spare capacity amongst New Zealand’s major trading partners; sharp declines in oil and export commodity prices in 2014/15; a significant rise in labour supply, and less inflationary pressure stemming from migration; and a change in price setting behaviour, with inflation expectations becoming more adaptive.

Basically, despite the title, it isn’t a paper about wage inflation –  which would surely focus substantially on what happened to wages given all else that had gone on in the economy – at all.

Consistent with this interpretation, I searched the document, and the word “productivity” did not appear at all, and yet in almost any possible story about longer-term wage growth, labour productivity should be one key consideration.     The author shows various charts of elements of the Bank’s forecasts they got wrong over the last decade, but again the productivity forecasts don’t appear.   Government agencies (Reserve Bank and Treasury) have done consistently badly on that score.

Carrying on with the search function, “terms of trade” didn’t appear in the paper, and nor did “investment”.

At the Governor’s speech a couple of weeks ago, a retired academic in the audience asked the Governor how the Bank was going to get away from what he (the academic) characterised as past Reserve Bank tendencies to treat wage inflation as basically the same thing as general inflation and, therefore, something to be jumped on.  The gist of the question seemed to be the (entirely reasonable) point that income shares can and do change over time, and that a changing income share (up or down) is not the same thing as inflation (or deflation).  I was a bit surprised at how the Governor answered –  he basically didn’t.  I’d thought it would be an opportunity for an expansive comment on the rich new research programme the Bank had underway, consistent with the revised mandate (and the rhetoric around it).

But this paper suggests the Bank hasn’t got far at all.  There is clearly some interesting exploratory micro-data work going on, but it appears to be of limited reach at best.  There are reasonable and interesting questions to ask about why inflation has been so low at surprisingly persistently low interest rates  (those are questions we really expect central banks to be answering).  There are important questions about why productivity growth in New Zealand has been so poor (for so long), and about why relative to that poor productivity growth wage rises in New Zealand have been quite strong (perhaps more so than in many other countries).

One can mount a reasonable case that those latter questions aren’t a prime concern of the Reserve Bank –  you can have price stability with high or low productivity growth, weak or strong labour income shares, and so on (inflation being primarily a monetary policy phenomenon).  But when you send one of your senior economists out to the public domain to speak on New Zealand wage inflation in the last decade or so, it is pretty astonishing that none of these considerations even get a mention, and instead you have a whole paper built around a misleading prior, that we should be surprised by how weak wage inflation has been.  To the extent there is a problem in New Zealand, it is more that overall economic performance has been poor, and within that underperformance, wage earners have at least held their own.

But I guess that –  whatever the facts –  isn’t a narrative the Governor would be keen on adopting.

 

Three totally unrelated items

Rather than clutter in-boxes with three separate shortish emails.

First, a follow-on from yesterday’s post about house prices. I noted that the absence of any real sign of falling land prices in and around our cities suggests that the (admirable) words around possible reform from the Minister of Housing are not being treated as credible. Asset markets typically incorporate expectations about future changes in factors that might affect prices in the relevant market.

I had a brief exchange in the comments to that post with Eric Crampton of the New Zealand Initiative, and I see that Eric has now set out comments along those lines in a post on his own blog.

Eric’s key point is that it is hard to short houses. That is quite true, but not (I reckon) determinative. There is no traded derivatives market (eg a futures contract on the QV index, whether nationally or regionally), and although someone who would naturally own one house can sell that house and rent for a few years, it isn’t easy or cheap to do so (actual transactions costs are non-trivial, it is often hard to get a secure long-term rentals, many people have ties to specific neighbourhoods etc). Of course, many holders in other markets are pretty passive too – you can short US equities (say) but a huge proportion of holders are either in passive index-following funds, or in funds that allow only small deviations from benchmark.

But, to get back to the land (and housing) market in New Zealand. If hardly any suburban owner-occupiers (like Eric or me) are going to sell and rent, even if we believed – as Eric seems to – that substantial reform really is coming, there are plenty of other market participants, and it is the marginal choice that will drive the price. Young people starting out can make a choice to hold off buying for a few more years (they are already renting, so have no new transactions costs). Older people looking at trading down can bring forward that move by a year or two. And probably more importantly still, marginal players often aren’t owner-occupiers (actual or potential at all).

If, as someone owning rental properties, you believe the government is really serious, and change is really coming (in fact, even if you only believe it with a 50 per cent probability), you face a high chance of a large fall in the price of your asset over the next few years. A rational response to that expectation would be to sell now – to get out while the going is still good. If you had a bought a few sections in the outer suburbs thinking you might develop them a few years from now, if you believe the government is serious and change is coming, you would want to offload your land exposure now. And – for the really serious players – if you hold pockets of land, large or small, on the periphery of major cities, and have seen the value of that land sky-rocket as population growth and regulatory scarcity rewarded you, any serious prospect of a change in regime, in which peripheral land might once again go for something like its best alternative (farming) use, would surely see you reassessing now.

None of these effects are as instantaneous as (say) the fx market’s response to a Reserve Bank OCR announcement, or even the stock market’s response to possible corporate tax cuts, but they are real and efficacious mechanisms which we should expect to see already at work if the Minister’s plans are likely to be the real deal. Sure, if his speech to the New Zealand Initiative two weeks ago changed expectations – and it certainly impressed some people, including me – we won’t yet see the results in the data (house price data is at best available monthly, and decent land price data is even harder to come by). But that won’t be a credible story as the months roll by.

Of course, in any such experiments with non-instantaneous effects, it is hard to untangle precisely what part of any price movement is due to the specific factor one is trying to isolate. But if these reforms are really the big event the Minister suggests (recall that the aim was to “flood” the urban land market), the effects should be pretty apparent pretty soon (especially with a slowing economy, easing migration, extended brightline tests, ringfencing, talk of CGTs, tighter credit conditions and so on). I remain pretty sceptical, less (as I noted yesterday) because I doubt Phil Twyford’s intentions, than because I doubt the commitment of the government as a whole (the PM in particular), or its interest in actually seeing land and house prices fall materially.

My second item related to the Reserve Bank.  Yesterday, there were two emails from the Bank.

The first was this press release

pac c banksThis from an organisation that claims it is underfunded.  “Fostering investment in green technology” simply is no part of the Reserve Bank of New Zealand’s mandate.  Nor, to be blunt, does the Reserve Bank have any obvious expertise.

Perhaps I should be encouraged to learn that the Governor is going to focus on lowering the cost of capital in New Zealand (bearing in mind that our real risk-free interest rates have long averaged the highest in the advanced world), but I don’t suppose that is what he meant.

And the second email from the Reserve Bank was this

capital

I guess it is better than not publishing the material at all, but this new 65 page document is finally released more than 3.5 months since the consultation document, setting out the Governor’s plans, was published, and with only a month until submissions close.  I haven’t yet read it, but someone who has tells me that it still doesn’t deliver a proper cost-benefit analysis, and only promises that they will do one one day –  probably after the final decision has been taken, to provide support for whatever the Governor settles on.

This is no way to make policy on serious matters.  Meanwhile the Governor cavorts with his tree gods and dabbles in things –  green technology just the most recent example –  that are no responsibility of his.

Thirdly, and finally, why is the case of Shane Jones (Associate Minister of Transport), the Northland trucking company (owner by a donor and distant relative), the NZTA, and the prosecution, not leading all media outlets?  Why is the Prime Minister not fronting up and facing hard questions about acceptable conduct in her Cabinet?   Appearances of impropriety should not be tolerated, let alone substance.

Matthew Hooton’s tweet seemed apt

Reminding ourselves that Transparency International is itself largely government-funded.