An external central banking expert has commended the New Zealand Reserve Bank’s forecasting and monetary policy decision -making processes. However, two areas are recommended for further analysis. The first is what the changing labour market under heavy immigration means for non-tradable inflation. The second is what the ‘new normal’ for monetary policy after years of very low interest rates means for future monetary policy. The impact of interest rate increases on the financial industry and on the real economy may be quite different than in the past.
As part of good practice peer review, the Bank regularly commissions reviews by external experts of its forecasting and monetary policy decision-making processes. It has modified its processes over the years in light of their findings.
Dr Philip Turner, former Deputy Head of the Monetary and Economic Department and a member of Senior Management of the Bank for International Settlements (BIS), was requested to attend the February 2017 forecasting round, report on his assessment of the process, and make recommendations where relevant.
Dr Turner comments that, in seeking to “avoid unnecessary instability in output, interest rates and the exchange rate”, the Bank’s mandate is realistic about what monetary policy can achieve.
“This mandate would not have been fulfilled in recent years, given the large shocks to international prices, by trying to keep the year-on-year inflation rate in New Zealand at close to 2 percent. To have achieved this, interest rates would have had to move by more than they have in recent years, and this would have created the unnecessary instability in output and the exchange rate that the RBNZ is enjoined to avoid.”
Dr Turner says it was clear that the Bank’s Monetary Policy Committee, which advises the Governing Committee on the monetary policy decision, has in its sights key questions about what might be called the ‘new normal’ for monetary policy.
These include the lower natural or neutral rate of interest; the increased responsiveness of aggregate demand to any change in interest rates; and how macro-prudential policies will affect monetary policy.
He says that the Bank’s open working-level culture of challenging views or arguments in a constructive and professional way enables the Bank to avoid ‘policy blind spots’.
“The whole forecast round has been engineered to bring to bear a full range of economic analyses and to ensure an open and comprehensive debate.”
Dr Turner recommended further work on two topics.
“Both are on the radar screens of RBNZ economists. The first is what the changing labour market under heavy immigration means for non-tradable inflation. The second is what the ‘new normal’ for monetary policy after years of very low interest rates means for future monetary policy. The impact of interest rate increases on the financial industry and on the real economy may be quite different than in the past.”
Dr Turner concludes: “Results over the past few years speak for themselves. The RBNZ has helped steer its economy through several large external shocks. Because it has done so without becoming trapped at a zero policy rate and without multiplying the size of its balance sheet by buying domestic assets, it has retained more room to pursue, if needed, a more expansionary monetary policy than is available at present to many central banks of other advanced economies.”
