More of the same for central bank
Coalition deal shows no sign of NZ First’s radical plan for monetary policy
Behind the coalition agreement’s perfunctory commitment to “review and reform” the Reserve Bank Act, it is clearly going to be Labour’s modest proposed changes — not New Zealand First’s radical ones — which eventuate.
Prime Minister Jacinda Ardern on Tuesday reaffirmed Labour’s policy of adding a full employment goal to the current sole objective the statute prescribes for monetary policy: stability in the general level of prices. There would also be some changes to governance.
But when asked about an exchange rate objective — which has been central to Winston Peters’ longstanding criticism of the monetary policy framework — she was emphatic. Price stability and employment it is.
So we are not going to move to the Singaporean model Peters favours, where the central bank targets the exchange rate rather than the inflation rate and uses a managed float rather than a policy interest rate to meet its target.
While we await legislative details — hopefully before a new governor is appointed to replace Grant Spencer next March — it is worth considering whether moving to a dual mandate, as they have in Australia and the United States, would make much practical difference. Spoiler alert: not really.
The state of the labour market is already central to the way inflationtargeting central banks approach their task.
They estimate the output gap. That is the gap between the economy’s actual output and its potential or sustainable output, which is determined by fundamental factors like labour force and productivity growth.
If unemployment is on the high side, it is an indicator of slack or spare capacity in the economy and a signal for policy to ease. Demand can be revved up with less risk of firms raising prices with competitive impunity.
It is not the only factor, but research the Reserve Bank has done concludes that the state of the labour market has proven a more robust indicator of the output gap than other signals, such as what business surveys are saying about capacity utilisation or investment intentions.
The Reserve Bank’s interest rate calls can affect the timing of business decisions to hire or shed labour, but that does not mean it can deliver a sustained increase in employment.
Finance Minister Grant Robertson evidently does not accept that. When I asked him in an interview this year how much difference the regime he advocates would have made, had it been in place in the past, he said: “In the very immediate past not that much, truthfully.
“But there have been other times in our history, and there have been other examples around the world, when lower interest rates would have helped to reduce unemployment.”
And in a later speech outlining his approach, Robertson said: “Had a mandate to maintain full employment been in operation in New Zealand it is likely that it would have constrained the bank’s [subsequently] aborted tightening of the official cash rate in 2010 and 2014. This would in turn likely have seen a faster return to target inflation and faster economic growth.”
Well, maybe. But counterfactual assertions about what would have happened if what did happen had not happened stand on epistemologically boggy ground.
Back here in the actual world, data from the OECD last week shows that New Zealand’s employment rate — the proportion of people aged between 15 and 64 who are employed — is at 76.2 per cent, the fourth highest level among the OECD’s 35 members. It is higher than in Australia (72.8 per cent) and the United States (70 per cent), despite their having employment as a monetary policy objective, and way higher than the Eurozone (66.2 per cent), despite its exceptionally loose monetary policy. Our employment rate has risen 3.4 percentage points over the past four years, against 2.5 per cent for the OECD as a whole.
That is remarkable given how rapidly the working age population has been growing. It has increased by 230,000 or 7.9 per cent over that period.
In the face of such numbers, it is hard to argue that the Reserve Bank’s mandate, or the way it has conducted monetary policy, has been hobbling jobs growth.
We need to remember that lowering interest rates is not a costless or riskless strategy.
The side effect of a world awash with cheap money has been asset price inflation. The short answer to those who contend that New Zealand interest rates have been too high is: “House prices not high enough for you then?”
When outlining Labour’s plans for a dual mandate in April, Robertson stressed the continuing importance of the price stability objective and said he would want it to continue to be defined as consumer price inflation of 1 to 3 per cent.
Defining “full employment” in a policy targets agreement with the bank would be more challenging.
Robertson said it was not his intention to seek a numerical target for unemployment or employment rates.
A reference to the concept of NAIRU (the non-accelerating inflation rate of unemployment) would also be problematic. NAIRU is not something which can be observed, only estimated with considerable uncertainty, and is liable to change over time. Right now it seems to be falling.
Trying to use it for accountability purposes would be like having a tape measure printed on elastic.
More broadly, the OECD data on employment rates counsel against seeing monetary policy as a panacea.
The world has seen extraordinarily loose monetary policy since the global financial crisis. The European Central Bank, for example, is still doing quantitative easing. Yet the recovery from the recession has proven slow and weak by historical standards. It was not until last year that the OECD-wide employment rate returned to pre-GFC levels.
Rather, the challenges facing all advanced economies when it comes to providing enough jobs at decent wages in the future arise from structural things such as globalisation and digital disruption.
Over the past 20 years or so, billions of people have been added to the world economy and global trading system who would previously have been part of some rural village economy of no significance to anyone else. Billions of people, willing to work for a fraction of the wage that people in rich countries need to be paid.
And as for the impacts of artificial intelligence on the workplace, we ain’t seen nothing yet.
Back here in the actual world, data . . . shows that New Zealand’s employment rate . . . is the fourth highest among the OECD’s 35 members.