Matt Nolan

July 09 OCR Review: Easing bias strengthens?

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At least that is my first impression from the statements.

Although last statement was the effectively the same:

“We consider it appropriate to continue to provide substantial monetary policy stimulus to the economy. The OCR could still move modestly lower over the coming quarters. We continue to expect to keep the OCR at or below the current level through until the latter part of 2010.”

However, the differences are interesting.  In June the RBNZ said:

We have cut the OCR by a large amount over the year. We expect the effects to pass through to more borrowers over coming quarters as existing fixed-rate mortgages come up for re-pricing.

They told us they had cut a long way – this is “anti-easing”.  In July they said two things:

The level of the dollar in particular, is not helping the sustainability of future growth, and brings with it additional economic risks

The forecast recovery is based on a further easing in financial conditions. If this easing does not occur, the forecast recovery could be put at risk. In these circumstances we would reassess policy settings

So they think monetary conditions are too tight (exchange rate and interest rates) implying that they may respond with a lower OCR in order to loosen conditions.

Note that the market was expecting the easing bias to go away, and they expected the sudden improvement in the housing market to be mentioned as a risk – but they were not.

Now if the RBNZ is really worried about the “sustainability of future growth” I don’t think a rate cut is appropriate.  Why when it makes the $NZ lower?  Well because it does that through lower interest rates, which makes consumption now more attractive than investment – the exact imbalance they seem to have been concerned about recently.

Matt Nolan

RBNZ inconsistency

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Eric Crampton points out that the RBNZ seems quite inconsistent at the moment. Now I have a high level of respect for our central bank, but Crampton is completely right.

How are they inconsistent? They complained that retail banks aren’t cutting interest rates far enough, then they stated that they think household’s need to save more (something that surely requires higher interest rates). As the Bank controls interest rates, the fact that they are saying they should be both higher and lower is very weird.

This inconsistency stems from the fact that the RBNZ is talking about different periods of time. The first concern is based on the short-term. They are worried about unemployment rising sharply, which is a wasted resource, and will thereby reduce national income – paradox of thrift style. The second concern is based on the medium term, they believe that the consumption share of GDP is too high (and export activity is too low) to be sustainable.

What the Bank wants is a shift in the economy from consumption to exports without any unemployment. Effectively, they think debt levels are “too high” and they are blaming this on consumption. I don’t agree and I think if there is any failure it is more likely to be the result of policy failure than “silly households”.

One last note, when the hell did the Reserve Bank become a central planner? Their mandate is to control medium term inflation, not to decide how national income should be divided.  They should mention risks, but saying that households are incapable of looking after themselves (which is what this sounded like to me) is going too far.

Matt Nolan

Why monetary policy to target asset prices wouldn’t work

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Monetary policy is ultimately all about expectations. As Nick Rowe from Worthwhile Canadian Initiative points out, this feature of monetary policy makes the idea of “targeting asset prices” difficult – and ensures that any attempt to pop bubbles will be difficult, even if the bubbles are observable (which most of the time they are not):

Let’s imagine a conversation that might take place in the future, under a different monetary policy regime, where central banks try to target house prices.

“Should we buy that house? The price does seem rather high, compared to everything else. You don’t think it might be a bubble, like in the 2000’s?”

“No, it can’t be a bubble, because the central bank assured us its new monetary policy would prevent house price bubbles. And in any case, (the relative price of) everything else … seems to be falling … so the only safe investment seems to be in houses. If we don’t get into the housing market now, our savings will keep on depreciating, and we never will be able to afford to buy a house.”

Effectively, by saying that they will control asset prices (and being credible) they convince people that current house prices are at a fundamentally sound level. This does not prevent the existence of multiple equilibrium for house prices, and if anything it may help to drive house prices to other equilibrium by increasing the confidence that “this is not a bubble”.

Matt Nolan

On penalty cash rates

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Scott Fullwiler from New Economic Perspectives (ht Economists View) describes some issues he has with the “negative interest rate” idea being put forward by Willem Buiter , Greg Mankiw , and Scott Sumner

Now I have previously put my foot forward and said I agree with this idea (here and here) and I still feel the same, let me describe why with reference to Dr Fullwiler’s post.

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jamesz

Bollard on banking

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You’ll have to wait until Matt returns from sick leave to get our perspective on the latest MPS, but I do have a few questions about Alan Bollard’s comments on the banking sector:

The banks needed to weigh their responsibility to their shareholders against their responsibility to the New Zealand economy, [Bollard] said. “We think some pressure on the banks will pay dividends,” he told MPs.

Why is it that Dr Bollard thinks banks should decrease their rates on the basis of ‘social responsibility’? Is he asking private companies to act inefficiently, or is there something else going on? Is he just anxious that banks are not responding as strongly as he would like to monetary policy and trying to muscle them into line? Read more

Matt Nolan

Taylor rule quote of the day

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We have all heard a lot about how the Taylor rule suggests the US needs a -5% cash rate, which is why this quote in a Bloomberg article was not surprising:

The rule might suggest the need by the end of 2009 of a funds rate of minus 7.5 percent, Laurence Meyer, vice chairman of Macroeconomic Advisers, said in a note to clients in March.

Another quote in the article, from John Taylor himself, was far more interesting:

He said his rule suggests a fed funds rate of 0.5 percent, while the central bank has cut rates to between zero percent and 0.25 percent.

What the hell?  So the guy that invented the rule is estimating a completely different appropriate target rate.  Now John Taylor is a clued on guy, so this definitely has led me to revise down my view of how much monetary stimulus the US will need.

My suspicion is that his view of potential output is well below the view of some other economists.  It is a possibility that we have also raised.