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More RBNZ Inflation Danger: a 2.5% OCR is not "neutral" - it is stimulatory (according to Summers)

When you lack the monetary economics expertise to make decisions in the best interests of your own nation, then you copy others. But it can lead to disaster. The main reason why our Reserve Bank took the money printing / Quantitative Easing road was because other central banks were taking it. The bureaucrats figured that even if they ran into trouble by doing so, their excuse to save their own jobs would be, "Well, that's what others did". They called it "least regrets". The strategy may have worked for them but it sent NZ into a wage-price spiral.


Where are things at today? The RBNZ has formally declared an Official Cash Rate of 2% as being the "neutral rate", meaning neither contractionary nor stimulatory with respect to inflation. The OCR now stands at 2.5% and the Bank has said that, "Once supply & demand are more in balance, the OCR can then return to a lower, more neutral, level".


Former US Treasury Secretary & Harvard University President, Larry Summers, last week rubbished such claims, describing them as "indefensible", "inexplicable" & "wishful thinking" in the States, where the Federal Funds Rate (equivalent to our OCR) is also sitting around 2.5% & inflation is not much higher than here (about 9% compared to NZ's 7-8%). In both nations, short term real rates (the OCR minus the inflation rate) are deeply negative.


"There is no conceivable way that a 2.5% interest rate at an economy inflating like this is anywhere near neutral. And if you think it is neutral, you are misjudging the posture of policy in a fundamental way", according to Summers. Which implies by the same logic that our entire political class, business media and public have been led by the RBNZ to misjudge the posture of Kiwi monetary policy, since the cash rate is the same in this country.


So why did the RBNZ call the 2% rate "neutral" and now says, as the OCR has risen to 2.5%, that the desire is to return to a "more neutral" level? Politics. Because for the Bank to state that it's still running a stimulatory policy, meaning inflation will remain at elevated levels, breaching the 1-3% target for years, would cause public uproar & resignations.


As a consequence, our Central Bank, like the US Fed, has instead decided to play the PR / Comms game & do politics not economics. The RBNZ has made an assertion which is "indefensible" by claiming to be running a policy that will cut inflation, even though it isn't .. which is why its credibility is in tatters. The Bank's true (behind-closed-doors) policy is to cross its fingers & hope our inflation will go away on its own. Don't hold your breath.


Sources:

https://www.rbnz.govt.nz/hub/news/2022/07/monetary-tightening-continues


https://www.youtube.com/watch?v=P6reu7qppUw