Pinning New Zealand’s latest inflation figures on overseas factors misses a distinction between a temporary “price shock”, and an increase in “permanent” inflation. New Zealand is experiencing permanent inflation, and it was caused by the Reserve Bank of New Zealand.
New Zealand’s inflation rate, back in March, was an annual rate of 6.9%, the highest its been in 30 years. Bad news for everyone, and much source of political blame-storming.
Inflation has impacted on the housing market, putting home ownership out of reach of many New Zealanders, and sending false signals to housing market investors about the true price returns from housing investment. And now, in June 2022, we are experiencing a housing market price crash, as monetary conditions tighten.
What causes inflation? Not us, says the government…
“This result shows the strong position New Zealand finds itself in despite a highly uncertain global environment dominated by high levels of inflation caused by the Ukraine war, the ongoing pandemic and supply chain disruptions. Our strong economic management has meant that we have navigated COVID to be in a far better position than many other countries to deal with the challenges that lie ahead,” Grant Robertson said.
https://www.beehive.govt.nz/release/strong-economic-position-reflected-crown-accounts
RESERVE BANK EXPLAINATION OF QUANTITATIVE EASING
Quantitative Easing, New Zealand’s version of which is the Large Scale Asset Purchase Programme, has been likened to helicopter money: as if a bucket load of money is dropped on the economy.
If you look around, there’s a lot of information on what causes inflation; for example, this: https://www.rbnz.govt.nz/financial-markets/using-our-balance-sheet-to-support-monetary-and-financial-stability
As the Reserve Bank writes:
The Monetary Policy Committee is committed to achieving its employment and inflation objectives. The main support for the economy in this environment is appropriately being provided through increased fiscal spending. However, monetary policy will continue to provide significant support through keeping interest rates low for the foreseeable future.
https://www.rbnz.govt.nz/hub/news/2020/05/large-scale-asset-purchases-expanded
The balance of economic risks remains to the downside. The expansion to the LSAP programme aims to continue to reduce the cost of borrowing quickly and sharply. This is preferable to delivering a smaller amount of stimulus now, only to risk later realising more should have been done.
I’ve bolded the bits above which are officialise short-hand for “We know this is risky for inflation, but we’re going to do it anyway”. The magic words are quickly and sharply.
Why?
The Committee noted that more stimulus is needed to support a medium-term recovery in economic activity, employment, and inflation. Members noted that the main thing needed to support the economy is fiscal stimulus, given that fiscal policy is best placed to directly support households and businesses. The role of monetary policy is to support the economy by ensuring that interest rates remain low, which will complement the effects of fiscal measures.
https://www.rbnz.govt.nz/hub/news/2020/05/large-scale-asset-purchases-expanded
Members discussed the fiscal assumptions in the economic scenarios. It was noted that the government has publicly announced that $52 billion has been made available for pandemic recovery packages. This figure is used as the core fiscal spending assumption in each scenario.
Members agreed that a ‘least regrets’ monetary policy approach is needed, delivering stimulus sooner rather than later, and thus minimising the risk that the stimulus delivered turns out not to be enough.
When the reserve Bank decided to pump the monetary accelerator, it considered it might be inflationary, but decided it will go for it anyway:
Members noted some chance that activity could be higher than expected. There is some possibility that trans-Tasman travel could restart earlier than assumed, or that a return to alert level 1 could happen sooner than expected. Either of these events would result in spending and employment recovering faster. Another possibility is that supply-chain disruption leads to relative price shifts for specific consumer products, keeping average inflation higher than expected. Members agreed that these possibilities were not material enough to shift the overall balance of risks around the baseline scenario.
https://www.rbnz.govt.nz/hub/news/2020/05/large-scale-asset-purchases-expanded
This is despite a quick google review showing the average time lag between stimulus and effect is about 29 months.
THE LEVEL OF EXPANSION
The numbers are pretty amazing:
- Over a 28 month period, from December 2019 to the end of April 2022, the Reserve Bank balance sheet increased 264% from $24.60bn to $89.48bn.
- The government made $52 bn available through fiscal spending.
- The cost of expanding the money supply will be $8.358bn (the Crown Indemnity for Large Scale Asset Purchase Programme). That’s money you and I will be paying out of our taxes, after inflation has already eroded the purchasing power of our incomes.
And now, about 29 months later from the start of the commencement of the Large Scale Asset Purchase, we have the highest rate of inflation in 30 years. Not a coincidence, and certainty not related to the Ukrainian war.
THE RESERVE BANK CAUSED OUR LATEST INFLATION
As Milton Freidman famously said:
Inflation is always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.
Friedman, Milton. 1970. Counter-Revolution in Monetary Theory. Wincott Memorial Lecture, Institute of Economic Affairs, Occasional paper 33, page 24
Knowing the monetary time lags, the scale of monetary expansion, the scale of fiscal expansion, and the economic theory of inflation, its hard to read the above and not think inflation might be significantly “on the cards”.
ESPECIALLY, given the Committee knew the world supply constraints would impact on the “more than output” component of Freidman’s advice. On what planet was a 264% increase in money supply (a demand accelerator) while the world’s supply chain was choked and backed up, ever going to sound like a sound monetary policy decision?
And its really hard for the Reserve Bank not to have been at fault. The Monetary Committee were told fiscal policy was the best way to address the impact of a price shock to New Zealanders. But instead, of letting fiscal policy do it’s thing, the committee fired up the proverbial money presses.
You can’t help but get the feeling the committee, motivated by the enormity of the world shutdown from COVID, wanted to “do something”, despite that being the wrong something.
Some sticks have been pointed at the lack of technical economics skills on the RBNZ monetary policy committee.
I have to agree.