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The Unreserved Bank

Published in Insights, The New Zealand Initiative’s newsletter, 16 August 2019

On Monday, Adrian Orr was interviewed on TV One’s Q+A programme. If you had not known that Orr is the Governor of the Reserve Bank of New Zealand, you could have mistaken him for a politician.

Orr expressed clear views not just on monetary policy but on fiscal policy as well. He urged the Government to spend more, especially on infrastructure.

The two policy areas are important to each other but they are not the same. In Economics 101, we learn that fiscal policy is everything related to taxes and government spending. Monetary policy, meanwhile, is everything that concerns interest rates and money supply.

For good reasons, fiscal and monetary policy are best kept separate.

Apart from Venezuela’s President Nicolás Maduro, no one wants central banks financing governments through the printing press. And apart from US President Donald Trump, no one wants governments to bully central banks to slash interest rates to assist their re-election campaigns.

It is good practice for governments to respect the independence of their central banks. Conversely, central banks should stay out of the government’s business. This separation is necessary so there is no doubt about the central bank’s focus on price stability.

With his Q+A interview, and in a previous interview with Newsroom’s Bernard Hickey, Orr has blurred the lines between fiscal and monetary policy. Following last week’s interest rate cut, Orr also explained, correctly, that unconventional monetary policy would lead to “fiscal policy operated through a monetary institution.”

This is concerning, especially since the Remit given to the Bank’s newly established Monetary Policy Committee requires it to support the Government’s general economic objective. Once the Reserve Bank resorts to quantitative easing, it might lead the Bank to prefer some bonds over others.

The Governor, who had previously expressed his frustration about the Government not spending enough on infrastructure, could then fund this spending himself.

Not that Orr would do that. He is a fine economist who understands the difference between fiscal and monetary policy.

But it is damaging to the reputation of the RBNZ that markets even wonder whether Orr might overstep his role.

For this reason, the Remit of the RBNZ needs urgent clarification that the Monetary Policy Committee will only pursue monetary goals, even under conditions of quantitative easing.

If Orr still wants to do meddle in infrastructure policy, he could run for Parliament instead.

Our research note The Unreserved Bank of New Zealand: Why unorthodox monetary policy needs boundaries is available for download here.

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