Brian Fallow: Labour's plan looks good

Photo / Dean Purcell.

The first impression of the Labour Party's "monetary policy upgrade" is that it looks good.

It has managed to pull off the trick of being conservative and progressive at the same time.

It preserves the essential virtues of the existing regime: the primacy of inflation targeting, the operational independency of the Reserve Bank, a freely floating currency and free movement of capital into and out of the country.

Tampering with those pillars of the status quo would have been risky.

The progressive bit is that it proposes an major new tool -- varying employee contributions to what will be compulsory KiwiSaver accounts -- so that interest rates will not have to work so hard and in the hope a chronically overvalued exchange rate might come down.

When David Parker, the architect of the policy, was asked how to sell the policy in smoko rooms, his reply was along the lines "Ask them if they would rather have more money in their savings accounts or lost forever to an overseas lender."

But like raising and lowering interest rates it is a blunt instrument.

It will feel like a tax increase , especially to lower-paid workers who can't afford a house and a mortgage. So the implementation and accompanying policies around the minimum wage, for example, will be tricky.

During times in the cycle -- and we are in one now -- in which it is necessary for policy to suck some demand out of the economy, raising household savings rates is one way to do it.

And the external deficits New Zealand has run for 40 years represents a structural weakness, that national savings fall well short of what we need to fund investment in the economy. It is a risk factor which helps explain our consistently higher interest rates and to the (debatable) extent to which interest rate differentials put upward pressure on the exchange rate, it helps explain the high dollar.

But the variable saving rate would rise and fall, and Parker envisages it being broadly neutral over the economic cycle.

So it does not fix that persistent structural weakness. Labour would argue it has other policies to do that, especially in the tax area.

The devil, as ever, is in the detail along with a bunch of lesser imps and demons.

The extent to which the new statutory objective of maintaining stability in the general level of prices "in a manner which best assists in achieving a positive external balance over the economic cycle" can be quantified, especially in a medium-term target, remains to be seen.

Whether the governor will only be able to recommend an increase in the saving rate (with the implied threat of a higher official cash rate if the Government says no) or whether the power to raise it will be delegated to him or her (within a range) is still an open question too.

The time it would take to introduce compulsory KiwiSaver membership for all employees indicates that this is not a quick fix to an overvalued exchange rate.

Worth a go, though.

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