A regulatory impact statement, written by Treasury, supports making price stability the Reserve Bank’s first priority but doesn’t believe changing the legislation is the best method.
National and its coalition partners have promised to amend the Reserve Bank Act to remove an employment objective Labour included as part of a set of reforms in 2019.
Changes to the legislation are expected to be passed through Parliament this week, under urgency.
But Treasury advised the Minister of Finance she should direct the Monetary Policy Committee to “focus primarily on achieving and maintaining price stability” without changing the law.
Setting a hierarchy for the dual economic objectives—putting the 2% inflation target ahead of maximum sustainable employment—in the committee’s remit would be sufficient.
A finance minister is able to issue a Monetary Policy Remit, which tells the committee what to focus on when setting policy, at any time.
The most recent remit was issued this year and removed a requirement to assess how policy decisions were impacting house prices that had been added in a 2021 remit.
However, the dual-mandate has been baked into the Reserve Bank Act and the committee would still have to think about employment — even if secondary to inflation in the remit.
Because of this, Treasury recognised that its preferred option would not fully meet the new Government’s commitment to remove the dual mandate completely.
Great expectations
Treasury said changing the mandate would be unlikely to alter actual policy decisions but could have a positive impact on public perceptions of the Reserve Bank.
“Expectations can have a significant impact on inflation outcomes … it may influence perceptions of the Reserve Bank’s willingness to take action — which may itself support the achievement and maintenance of price stability”.
Research published by the central bank this week found the public pay more attention to inflation when it was above 2.5% and become less responsive to policy signalling.
Treasury said changing the legislation could send a stronger message to the public than simply adjusting the remit, despite having the same or similar effect on policy outcomes.
The RBNZ itself has advised the Government to make it clear that maximum sustainable employment was a secondary goal and noted the concept was “not well understood”.
Maximum sustainable employment is defined as the level at which the job market is tight, but not so tight as to cause inflation to climb above the target.
This definition automatically makes the employment objective secondary to inflation, since price stability is hardwired into the concept itself — but that is not always the perception.
Grant Robertson, Labour’s finance spokesperson who helped design the dual mandate, said the language in the Reserve Bank Act already emphasised inflation over employment.
It tasks the central bank with “achieving and maintaining” price stability, while only “supporting” maximum sustainable employment.
It was drafted that way to recognise the Reserve Bank’s main tools had a direct impact on prices and more indirect effects on the real economy, he said.
Robertson said the ‘maximum sustainable employment’ definition was partly chosen in an effort to build bipartisan support for the changes made in 2019.
Labour’s 2017 election policy had been to use the stronger goal of ‘full employment’ in the bank’s mandate. This is a similar concept to MSE but doesn’t have any reference to inflation.
The finance spokesperson said the policy reversal should be put to a select committee to allow more public debate about the Reserve Bank’s purpose.
Just like inflation, unemployment was “one of the greatest scourges” on people’s ability to achieve their potential and New Zealanders would be worse off without some focus on jobs.
Interesting times
Kelly Eckhold, chief economist at Westpac NZ, said having a sole focus on inflation wouldn’t change policy in most circumstances.
“However, in the current context we think these adjustments will affect the RBNZ’s assessment of the balance of risks for policy in the next year or so,” he wrote in a recent note.
The government was sending a message to the public and the central bank that it should not be taking any risks that could allow inflation to stay above 2% in 2025 or beyond.
RBNZ would consequently be “unforgiving” of any inflationary surprises and less willing to cut interest rates early, as market participants currently expect.
“A pre-emptive easing that turned out to be the wrong judgement would not be greeted warmly by the Minister given the new Remit”
2 Comments
I think Orr and Robbo have laid a great honey trap here.
Nact will amend RBNZ legislation against advice.
Orr and co will stay HFL, and he can say the reason rates are so high, is the new (Nact) policy. Aka the cost of living is worse because of this govt.
The idea that this change helps get on top of inflation ignores that it does that by grinding consumers down a lil more on the way to lower inflation.
I subscribe to the view that enough people will see through that, and arent stupid. Theyll recognise that RBNZ have the mandate and responsibility for monetary policy - (mostly) preserving the value of currency. The government is responsible for fiscal policy and its outcomes - jobs, housing, health, education etc. Blurring responsibilities doesn't improve outcomes, as has been demonstrated.
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