Monetary policy under a Labour-Green cabinet

Steven Joyce will by now have set the main parameters for his first budget on May 25. He will likely have ballparked the big spending and tax and rebate items.

Likewise capital and building allocations, including for regional development — for, say, South Auckland, where Te Papa has proposed a major branch museum in Manukau.

Big construction projects equal jobs and activity. Add that to record numbers of immigrants bringing in cash. Joyce will be able to project to middling voters a benign economic path.

This is not quite as it seems. Measured on a per-person basis, gross domestic product fell in the December quarter. Wage pressure, except in construction, is still lighter than would be normal in a 3%-a-year economy. Migrants help keep a lid on wages.

And, while government debt is under control, household debt has soared back into record territory, exposing those with high debt to potential pain from any global shock — though the fallout would likely be mostly after the election.

Business is taking notice. In two recent measures of business confidence, by the ANZ Bank and the New Zealand Institute for Economic Research, businesses lowered expectations for the economy from last year’s highs.

No need to fret yet. Own-activity business measures are still healthy. And business tends to fret a bit pre-election, fearing change.

That turns the torch on Grant Robertson and James Shaw.

Three weeks back their fairly conservative fiscal framework got wide coverage, including a double-page spread in the New Zealand Herald. Business did not take fright.

Robertson’s next step was set to be a seminar yesterday (after this was written) at the Institute for Governance and Policy Studies.

The subject was monetary policy — an important topic as general inflation comes within sight of the Reserve Bank’s 2% target and domestic inflation climbs past it and Governor Graeme Wheeler sticks to his ultra-low official cash rate.

Robertson’s central point is that the world has changed in the 28 years since the Reserve Bank Act was passed. In 1989 the big need was to lower inflation, which then-leftish Michael Cullen, backing the act, called a “tax on the poor”. Since the 2008 global financial crisis (GFC) rich-country central banks, including ours, have obsessed with getting inflation up off the floor.

Hence Wheeler’s ultra-low rate. Just as a high rate is supposed to rein in consumer and business activity when they are faster than the economy can handle without distortion, in the central bank catechism a low rate is supposed to boost activity when it is thought too low.

But nine years on from the GFC liquidity crisis when the United States credit bubble burst, rich-country growth has not had a textbook recovery. New Zealand is a standout.

So questioning of the 1980s textbook has grown.

Hyun Song Shin, Bank for International Settlements economic adviser, has said that instead of curing economic gloom, ultra-loose monetary policy may have prompted investors in bonds to behave in perverse ways that added to gloom.

Claudio Borio, also of the BIS, has called inflation-targeting simplistic, with a built-in downward bias that pushes up debt — steeply since the mid-1990s. He wants the target to aim to keep credit growth in line with incomes.

Others, including Australian academic Warwick McKibbin, want to target nominal GDP or nominal income growth.
Robertson, like a growing number of economists, questions whether the consumers price index (CPI) – Wheeler’s target — measures inflation accurately, given the increasing proportion of production and purchasing that goes to digital activity, where production costs are falling and capabilities expanding. The internet and e-commerce weren’t around in 1989.

And he notes that domestic and “core” inflation are close to or over 2%. Wheeler can directly influence domestic inflation but the tradables inflation CPI element is overwhelmingly set offshore.

Robertson wants an employment target added, as in a number of other countries. Exactly what that should be would be for expert inquiry post-election but 4% is a ballpark figure. Labour also wants a “living wage”.

Robertson notes that low interest rates have stoked house prices which Wheeler has had to address with bank regulation.

His post-election inquiry would feed into a revision of the Reserve Bank Act. One change Robertson wants is for a board — say, four Reserve Bank top executives and three outside experts — to set the official cash rate, as in some other countries. He wants the board’s minutes published, as in those countries.

That is all a precursor to setting the detailed targets in the policy targets agreement[].

Robertson has had to climb a steep hill to credibility in his finance role. His fiscal framework and monetary policy are early signposts, with a way to go yet — next month, the budget.

Meanwhile, Joyce, who has set up his own, narrower review of Reserve Bank rate-setting governance, scorns him as a “train-spotter”.