There are plenty of people who have wanted to “humanise” the bank over the years. To make it more accessible, for it to engage more in the public square. In some ways, Adrian Orr was the embodiment of that desire. It was hoped his “everyman” style would bring some fresh air to the dusty cloisters of the bank.
And indeed he did, no doubt with the encouragement of the man who appointed him, Grant Robertson. Governor Orr was initially talkative to the point of garrulousness. And he was a man for the grand confident flourish, rather than incremental change.
He was a believer in an expansive, benevolent state, and extended the bank’s remit into all sorts of interesting new areas, such as climate change, the Māori economy and housing supply. He adopted a much more robust approach to prudential oversight of banks and financial institutions, a hitherto dusty corner of the bank. And he obtained big funding increases from the Government to feed these new and expanded areas of work.
Now, with one last grand flourish, Governor Orr has left the building. The important question is what is next for the Reserve Bank, arguably the most important economic institution we have.
There are three things that I think need to change.
First, the bank’s remit needs to be pared right back to true macroeconomics. Any policy work that smells of microeconomics, or individual elements of the economy, needs to be expunged. It is not the bank’s job to seek to influence the pace and method of responding to climate change, the growth of the Māori economy, or the supply of housing, beyond its macroeconomic remit.
Indeed, beyond its general inappropriateness, involvement in non-core policy areas such as these risks the core role of the central bank. Some are politically contentious, and the bank must be seen to be above and distant from politics in order to be endorsed by the public to do its job.
The whole point of an independent central bank is for it to manage the economic cycle independently of the political cycle. That requires it not to be a party to the political cut and thrust.
That is not to say the bank shouldn’t share its thoughts, for example, that an increased supply of housing would make its job easier. However, its pre-eminent job is to provide a stable macroeconomic environment that allows individual elements within the economy to grow as they might, subject to the policies of the elected government of the day.
A serious policy pruning would have the ancillary benefit of reducing the bank’s budget, which is an important optical as well as fiscal requirement that will help restore public confidence.
Secondly, the bank’s prudential rule-setting must be constrained and subject to clear ministerial and parliamentary oversight.
It is clear from the work of the Commerce Commission and, more latterly, some of the evidence of the select committee banking inquiry that the bank and its governor have gone too far in attempting to remove almost all risk from the banking system, at the expense of banking competition, the cost of finance and, consequently, economic growth.
In particular, its insistence on a one-in-200-year capital adequacy ratio should be revised down to one in 100 years, as is the standard internationally.
Of more lasting importance is answering the question as to how independent the bank should be when setting prudential requirements. Some are arguing for a prudential regulator separate from the Reserve Bank, as they have in Australia, but I’m a bit allergic to setting up new government agencies. We have plenty of them.
I like the idea of making prudential rules subject to ministerial decision and parliamentary scrutiny, like other areas of government financial regulation. The general principle is that politicians make the regulations and the regulator enforces them and recommends new ones, a la the Financial Markets Authority.
There are those who would say that prudential regulation is too important for politicians to decide, but politicians make life-and-death decisions on appropriate risk levels every day in areas such as transport policy, natural hazards, and health and safety. It’s unclear to me that bank prudential rules need to be any different.
Thirdly, the next governor needs to be much more in the traditional mode of central bankers than the last one. Like a Graham Wheeler, or the pre-politics Don Brash.
Successful central bankers need a certain emotional detachment from society or they couldn’t do their job. But that needs to be coupled with a deep understanding of their role in fostering confidence in the macroeconomic policy settings of the country to encourage investment and growth.
They need to be obsessive about their core role. I can recall both Brash and Wheeler being prepared to travel anywhere in the country to patiently explain to pretty much anyone how monetary policy works, and what it can and can’t do. In my experience, Wheeler was always interested in hearing about the on-the-ground impact of the bank’s settings.
We are seeing daily how easily economic confidence can be lost with wild swings in policy settings, US trade policy being the most extreme current example. Confidence is hard won and easily lost. Perhaps the biggest lesson in New Zealand’s recent experiences in central banking is that we need a steady hand who also isn’t afraid to buck international groupthink when the evidence dictates.
In the tumultuous world we currently live in, being a steady predictable economic actor at the bottom of the world is an outlier position which we should happily take up.
