National says Reserve Bank's monetary policy review 'fails credibility test'

Thursday, 10 November 2022

Reserve Bank chairperson Neil Quigley says he doesn’t believe an independent inquiry into the central bank’s conduct of monetary policy is necessary, but if there was to be one it would fully co-operate.

“We are entirely open to that,” he said.

National Party finance spokesperson Nicola Willis said the party would order an independent inquiry as soon as possible if it won the next election, saying a self-authored review published by the central bank on Thursday “failed the credibility test”.

The Reserve Bank admitted in that report that inflation could have been “lessened at the margin” if it had started tightening monetary policy earlier in 2021.

Chief economist Paul Conway said annual inflation, which was last measured at 7.2%, could instead have had “a ‘6’ in front of it”, if different decisions had been reached.

But the central bank said its review of monetary policy decisions over the past five years found they “were consistent with the data available at the time”.

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National Party finance spokesperson Nicola Willis and Reserve Bank governor Adrian Orr appear to hit a low point in their relationship at a select committee hearing in November.

“The easing in monetary policy during the Covid pandemic was warranted and worst-case economic scenarios were avoided,” it said.

Willis said the report highlighted mistakes that were made “but then excuses them, basically claiming they were unavoidable”.

“There's really no hint in there of accountability for any failures. I am interested in what someone truly independent would conclude.

“I don't think it's enough for the Reserve Bank to produce its own report saying, ‘Yes, we made some mistakes, but gosh, anyone would have.’”

The central bank kicked off a review of its remit and its implementation of monetary policy in June amid mounting criticisms that it had allowed inflation to get out of hand by sticking for too long with monetary policies that were too loose during the Covid pandemic.

But Finance Minister Grant Robertson appeared to effectively pre-empt the possibility of any serious personal consequences flowing from the report on Tuesday, when he reappointed Adrian Orr as Reserve Bank governor for a second five-year term.

That was over the head of objections from Willis, who wrote to Robertson in September saying the National Party would not support Orr’s reappointment for five years without an independent review of the bank’s performance, citing concerns about “sustained levels of high inflation”.

Despite that, Willis said in the wake of the Reserve Bank’s report that she believed she could work with Orr for three years if National was elected.

Reserve Bank governor Adrian Orr speaks with Stuff a day after raising the official cash rate in August. (Video first published August 18, 2022)

National still held dear the credibility of the monetary policy framework and the independence of the Reserve Bank, she said.

“We want an independent inquiry, and the results of that inquiry would determine our relationship with the governor going forward.”

The Reserve Bank said the easing in monetary policy during the Covid pandemic – which saw the bank reduce the official cash rate (OCR) to 0.25% for 19 months and inject about $54 billion into the financial system through quantitative easing – was warranted and “worst-case economic scenarios were avoided”.

Conway, who joined the bank in May, said “the current heightened level of inflation could have been lessened at the margin by an earlier tightening in monetary policy in 2021”.

“However, while we are facing some serious economic challenges, the New Zealand economy has weathered the economic storm created by pandemic and war relatively well. Inflation and unemployment are both low compared to the vast majority of OECD countries,” he said.

The Reserve Bank did not begin raising the OCR until October 2021 and then only did so by 25 basis points.

Infometrics economist Brad Olsen described a decision by the bank to only raise the rate by a further 25 basis points to 0.75% the following month as “birdbrained and spineless” at the time.

The Reserve Bank’s 115-page report said its policy of quantitative easing ”successfully restored functionality to financial markets”, and another initiative that has seen it lend money at a low interest rate to banks “provided additional stimulus and supported confidence in the banking system”.

But it said “with the benefit of hindsight, it appears that monetary policy should have been tightened earlier in 2021”.

It could have reduced the scale of quantitative easing or ended it sooner, it said.

“Likewise, in hindsight”, it could have raised the OCR earlier, it found.

The Funding for Lending programme for banks could have been “designed with more flexibility”, it also said.

“For example, the inclusion of an early termination clause with reasonable notice in the event of changed economic conditions could have been included.”

But it said the latter approach could have reduced the effectiveness of that scheme, and tightening monetary policy earlier last year “would not have fully offset the strong inflationary impulse stemming from a series of supply shocks, including Russia’s invasion of Ukraine”.

It also said its “cautious approach” towards tightening monetary policies was “in line with many other central banks over this period”.

Quigley noted the report had received input and been reviewed by external reviewers, who were appointed by the bank.

But he said it contained “a comprehensive range of information that will allow those who read it to form their own views”.

The external reviewers were a former deputy governor of the Reserve Bank of Canada, Lawrence Schembri, and Australian economist Warwick McKibbin.

The Reserve Bank of Canada pursued policies that were similar to those of New Zealand’s Reserve Bank during the pandemic, but McKibben has been a vocal critic of many of those policies, including quantitative easing.

McKibben said in his peer review of the Reserve Bank’s report that the bank “responded better to the Covid crisis and the ongoing shocks in the global economy than many other central banks” but that in retrospect its spending on quantitative easing was “excessive”.

“We take that as his opinion,” Orr said.

Schembri said the Reserve Bank had focused on consumer-price inflation rather than core inflation between 2017 and 2019 and that might have contributed to “the rapid increase in house prices over this period”.

He also said it was not evident the Funding for Lending had expanded lending “relative to what would have occurred without the programme”.

The bank referred to the term “hindsight” 13 times in the report and its preface, which was titled “In Retrospect: Monetary Policy in New Zealand 2017-22”.

Willis said an independent inquiry into the same matters a year down the track would still have value despite it being “such an unusual period”.

“We've got a significant cost-of-living crisis, interest rates have climbed very steeply and look set to continue to do so.

“We had extreme house price inflation and, now, the extreme decline on the other side. All of these big impacts directly related to monetary policy decision-making by the Reserve Bank. Actually, we need to know whether or not they got it right.”