Under-fire Reserve Bank needs to show its hunger to check its assumptions

Thursday, 12 November 2020

Reserve Bank governor Adrian Orr faces a difficult balancing act reining back inflation in the face of evaporating business and consumer confidence, economists have been pointing out.

OPINION: It is no surprise that the Reserve Bank has chosen to stay on course with aggressive monetary policy easing despite growing alarm that it is fuelling a housing and asset bubble.

But the tone of Reserve Bank governor Adrian Orr when discussing its monetary policy statement on Wednesday suggests the bank is not impervious to the mounting criticism.

The bank put its pedal to the metal with a Funding for Lending scheme that will see it lend banks up to $28 billion at the Official Cash Rate, currently 0.25 per cent, to on-lend to home buyers and other borrowers.

It will put no significant controls on how banks can lend out the money.

National MP Andrew Bayly says if the Government extends the bright-line test more people will be paying the tax than before.

* Reserve Bank says it's not responsible for housing crisis as it unveils $28b of cheap funding for banks aimed at housing

* Reserve Bank may need to pivot, but Wednesday may be too soon

Chief economist Yuong Ha says that about a third of the available funding will be tied to banks issuing new loans to customers, but he confirms that could include new mortgages.

There was speculation Finance Minister Grant Robertson might want to see some of the Reserve Bank’s freshly-printed billions directed away from the mortgage market, towards business and other lending.

But the central bank will instead attempt to put a handbrake on the mortgage market from March by reintroducing loan-to-value (LVR) controls on mortgage lending, a move Robertson has welcomed and – who knows – could have encouraged.

Understandably though, the plan has led to fears of a housing-price blow-out this summer as buyers seek to beat the new controls.

The National Party’s newly-appointed shadow Treasurer Andrew Bayly isn’t holding back.

“Low interest rates and the Reserve Bank’s money printing are simply adding fuel to the fire of New Zealand’s broken housing market,” he says.

The announcement of a Funding for Lending scheme without any requirement for the new lending to be targeted at productive investment will add even more pressure, he says.

Ha says March is the earliest LVRs could legally come back in, given the “due processes” the Reserve Bank has to follow and taking into account the “Christmas, New Year holiday window”.

“There is nothing stopping banks getting ahead of this themselves” by curtailing higher-risk lending before then, he notes.

Before the monetary policy statement I argued that the interesting question would be not whether the bank changed tack on monetary easing, but how confident it sounded about its current course.

Orr’s sometimes prickly tone on Wednesday suggests that confidence might not be limitless.

“All I ever read about with monetary policy is house prices – that’s not our mandate,” Orr complained to assembled media.

“And I’d ask journalists to reflect on that. Our mandate is inflation, consumer price and employment.”

Well, maybe.

But one refreshing aspect of Orr’s approach to monetary policy has been his past, realistic recognition of the limits of its effectiveness in controlling the real-world economy.

Also, an asset bubble, if it exists, represents at best stored consumer inflation and at worst a potential risk to financial stability which it is also in the Reserve Bank’s mandate to avoid.

Regarding the latter, Orr laboured perhaps a bit too hard to draw the fine distinction between “house price inflation” and the proportion and value of high-risk loans that LVRs would seek to control.

Yes, the latter might be the one that it makes most sense technically to measure for the purposes of determining when to switch on and off LVRs, but let’s be honest; the two do rather go hand-in-hand.

Orr would have had a reason not to be in the best of moods on Wednesday.

The Reserve Bank’s decision to consider reimposing LVR controls shreds a commitment it made not to do so before May.

Westpac chief economist Dominick Stephens is right to suggest that undermines the ability of the bank to provide credible forward guidance more generally.

In actuality, it has always been a bit of a nonsense for the Reserve Bank to suggest its future actions can ever be cast in stone.

It committed in March keep the OCR at 0.25 per cent for a year.

But it would have had to break that promise if, say, a Covid vaccine had been found two months later and economic growth had taken off; it would have had no real choice.

The trashing of forward guidance on LVRs might be a good King-Canute like lesson for the Reserve Bank.

Regardless of views on whether or not it has drifted a bit off track, it comes at a time when the bank is unquestionably making big interventions in a highly unpredictable domestic and global economic environment.

That means its appetite for continually re-evaluating and testing its assumptions about the direction of both should be nothing short of voracious.

It might have been good to have heard a little more evidence of that heightened appetite, and fewer self-justifications, on Wednesday.