Commentators who were dismayed early in June by the Reserve Bank’s signalling an easing of interest rates have cause to become greatly more perturbed. Their initial cause for disquiet was suspicion that RBNZ governor Alan Bollard was going “soft” on inflation. Worse, early in July the Government seemed to be going soft on the Reserve Bank Act and its singular focus on inflation.
Associate Finance Minister Trevor Mallard raised doubts about Labour’s commitment to the Act’s monetary policy framework on 2 July. NZ First leader Winston Peters questioned him in Parliament that day about Reserve Bank initiative to pursue “options for alternative instruments” for monetary policy. Would those alternatives take into account the balance of payments, exports, GDP growth, and full employment “as equally important elements as controlling inflation”?
Mallard replied it was too early to anticipate what would be included. It had been appropriate for the newly independent Reserve Bank to have been given single inflation-focused objective when the Act was passed – but “the economy has changed lot in the last 20 years: the major sources of inflation are different, and we have much more open economy.”
For several years, under both governors, inflation had been driven by increased domestic demand stemming from buoyant housing market, fuelled by cheap foreign capital attracted by stable economy and relatively high interest rates. Inflation challenges now were being driven by record-high international prices of food and oil.
In both cases the tools available to the Reserve Bank had not been able to address those problems. The Government was open to looking at alternatives that best serve “the modern New Zealand economy”.
Labour MP Moana Mackey then asked if the Government was open to proposals to improve the operation of monetary policy. The short answer was ‘yes’. That’s why the Government commissioned the “Supplementary Stabilisation Instruments” report from Treasury and the Reserve Bank and why the Finance and Expenditure Committee was invited to conduct an inquiry into monetary policy involving all political parties. But (here comes an electioneering niggle) “at every step the National Party, and especially Bill English, have done all they can to derail and disrupt attempts to obtain political consensus around this very important economic issue”.
Peters then asked politically charged question in three parts:
1. Could Mallard confirm that the Reserve Bank Act “simply does not work for this economy”?
2. Was he aware that the Bank of England recently allowed inflation to exceed its targeted range, reasoning that trying to counter rises in food, energy, and import prices would result in “unnecessary volatility in output and employment”?
3. The Reserve Bank estimated that 90,000 New Zealanders must lose their jobs over the next three years if inflation targets were to be met by using tight and high interest rates. Did Mallard accept “that 90,000 job losses, with possibly 250,000 dependants losing their income, and one percent to 1.5 percent GDP growth are merely collateral damage”?
Mallard somewhat cryptically replied: “My position on this is that the Reserve Bank of New Zealand Act has not worked as well in the last decade as it did in the first.”
Finance Minister Michael Cullen subsequently told interest.co.nz the Government was not actively considering alternatives to the Reserve Bank Act, although he looked forward to receiving recommendations from Parliament’s Finance and Expenditure Select Committee. He also said the Reserve Bank Act was likely to become an election issue (although it “has been at almost every election since the Act came into force”).
This rankled some commentators. The independence of the Reserve Bank and the level of interest rates would become political football. Labour and NZ First would want to portray National as the defender of high interest rates and doctrinaire approach to running the economy. It was “a sign of the desperation in Labour’s ranks” that both Mallard and Cullen were “hinting at abandoning the 20-year consensus on monetary policy being used to keep inflation low”.
But BERL economists, on the other side of the argument, have point when they ask why inflation should be treated as the economic ill of all ills to be contained (by law) at all costs. Sure, inflation is bad, they say. But unemployment is also bad, as are low wages, trade deficit, skill shortage and migration exodus. Why should the weight of law mean the fight against inflation overrides all other economic objectives? Because the costs of fighting inflation are potentially large, BERL suggests, they should be properly calculated and explicitly published so the public can see if appropriate decisions are being made.
Bob Edlin is leading economic commentator and NZ Management’s regular economics columnist.
