Robert MacCulloch: The case against the Reserve Bank and the Finance Minister


The Reserve Bank has a formal objective to keep inflation in the range of one to three percentage points, as specified by the Remit for the Monetary Policy Committee, which was signed and “agreed by” the Governor and Finance Minister.

This range constitutes the official definition of “maintaining stability in the general level of prices” in the RBNZ Act. However, both signatories to the remit have gone and wilfully ripped up their sworn aim.

Let’s build the prosecution’s case. Exhibit A is that the defendants already admit it. At the last meeting of the Bank’s Monetary Policy Committee (MPC), members confessed that “annual consumer price inflation is expected to peak around 7 per cent in the first half of 2022”.

Are the shocks hitting us short to medium term? No.

The bank says, “A broad range of indicators are highlighting … ongoing inflation pressures.”

Has the misconduct of monetary policy, which has been inciting the inflationary breach, ended? No. The bank says that the Official Cash Rate (OCR) “is stimulatory at its current level”.

Not only has NZ’s inflation target been ignored, but those responsible for achieving it are still pouring gasoline on the fire.

Exhibit B comes from Professor John Taylor, inventor of the “Taylor Rule”. That rule is a simple formula explaining how a Central Bank can quell an inflationary shock. It has proved a robust guideline when setting Official Cash Rates around the world.

The rule states that an increase in the OCR of more than one percentage point is required when inflation increases by one percentage point. The reason is to ensure that real interest rates go up to reduce borrowing.

Without a rise in real rates, debt-financed spending can continue to fuel inflation.

So what’s been going on in NZ? Annual inflation, measured at March 2021, was 1.5 per cent. Annual inflation at March 2022 was 6.9 per cent. In other words, inflation has risen by more than five percentage points this past year.

However, the RBNZ has only increased the OCR by a little over one percentage point over the same period, sending short-term real rates deeply negative.

The Taylor Rule is powerful evidence that there has been no intention, whatsoever, of our authorities to meet their obligation of keeping inflation on target.

Exhibit C is NZ’s record-low unemployment rate, which stands at 3.2 per cent.

Unemployment sharply increasing would have been a justification for holding back on steep hikes in the OCR to contain inflation. Yet the MPC says “employment is above its maximum sustainable level”.

In their defence, the Governor of the RBNZ and Finance Minister have claimed others are doing the same.

“Global consumer price inflation is high, well above most central banks’ targets”, argues the Monetary Policy Committee.

Attempts to present the situation abroad as being the same as in NZ are misleading.

Although the US Federal Reserve also has a mandate of “stable prices”, these words are not defined in terms of an inflation target that has ever been “agreed” by the Fed Chair and US Treasury Secretary.

For most of its history, the Fed baulked at providing even its own internal definition.

A target did emerge when Ben Bernanke was chairman but the Fed subsequently changed it into one that was intentionally vague and ambiguous. Targets are not all alike, contrary to the MPCs insinuation.

In stark contrast, our RBNZ has no discretion to play around with the meaning of price stability. The point of the explicit inflation target signed off between the RBNZ Governor and Finance Minister has been to “provide a clear agreement between policymakers, thereby limiting the scope for discretionary policy actions”, to quote Adrian Orr, writing for OECD Policy Studies in 1994.

So what has been driving OCR decisions? Populism.

After keeping the cash rate so low for so long and embarking on a $53 billion Quantitative Easing (QE) programme, the bank is now in panic mode. It is panicking at the prospect of a full-on policy reversal that will highlight past mistakes and provoke widespread debt distress.

Those having trouble paying back their mortgages in the next few years can blame our RBNZ Governor and Finance Minister. They encouraged a borrowing binge to buy houses at wildly inflated prices, financed by dirt cheap credit, turning a blind eye to the breach of the target to which they mutually agreed and not learning the lessons of the Global Financial Crisis in 2008.

The RBNZ was once lauded around the world for making NZ exceptional. It pioneered inflation targeting. We became the gold standard of monetary credibility.

Now our hard-fought success and huge reputation built up over 30 years lie in ruins.

Exhibits A, B and C reveal how the RBNZ and Finance Minister have overseen the trashing of their “agreed” inflation target.

The official defence is that other Central Banks are just as bad. That’s not true. Not one of them operates under the same laws as ours.

The US Fed Chairman and Treasury Secretary have not broken any agreement. By comparison, our RBNZ Governor and Finance Minister have driven a truck through the single most important agreement underpinning our economic security since 1989.

• Robert MacCulloch is the Matthew S. Abel Professor of Macroeconomics at the University of Auckland.

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