Wednesday's monetary policy statement is the last to be produced before the Reserve Bank's new dual mandate for monetary policy takes effect.

Sitting alongside the longstanding objective of price stability is a new goal: "supporting maximum sustainable employment".

The bank's new riding instructions from the Government give it plenty of wriggle room in interpreting "maximum sustainable employment".


Those instructions are expressed in the remit, signed yesterday, which replaces the former policy targets agreement.

"The [monetary policy committee] should consider a broad range of labour market indicators to form a view of where employment is relative to its maximum sustainable level, taking into account that the level of maximum sustainable employment is largely determined by non-monetary factors that affect the structure and dynamics of the labour market and is not directly measurable."

Governor Adrian Orr said he was pleased the remit explicitly mentions that many factors other than monetary policy affect maximum sustainable employment.

The bank interprets maximum sustainable employment as "the highest utilisation of labour resources that can be maintained over time without generating an acceleration in inflation".

The latest statement concludes that employment is near its maximum sustainable level and is expected to rise slightly above that level over the medium term, supported by fiscal and monetary stimulus.

And it considers the risks to that judgment are balanced.

The recent slowdown in GDP growth could weigh on labour demand more than we have assumed, resulting in lower employment growth and lower wage inflation. Alternatively, the labour market may be tighter than we anticipate, particularly given the shortages noted by firms and in business surveys.

As for the rear-view mirror, the December quarter labour market data that came out last week were highly consistent with what the bank had forecast in its November statement.


The unemployment rate, rebounding most of the way from an implausibly steep drop in the September quarter, continues its trend decline.

At 4.3 per cent of the workforce (where the bank had forecast 4.4 per cent), it is down from 4.5 per cent a year ago and 5.2 per cent two years ago.

It would be lower but for the fact that the labour force participation rate, which is the share of the working age population (everyone over 15) who are in the labour force, is an internationally and historically high 70.9 per cent, exactly on forecast.

The number of people employed grew 2.3 per cent last year, resulting in an employment rate — the share of the working age population actually employed — of 67.8 per cent.

That is the third highest in the OECD, even before the working age population gets revised lower to reflect the statisticians' downward revision to the population gain from migration.

Meanwhile, the net proportion of firms reporting that it is getting harder to find both skilled and unskilled labour is back at the sort of level prevailing in the years before the last recession.

Despite these indicators of a tight labour market, wage growth has been, to put it mildly, not menacing from the standpoint of an inflation-targeting central bank.

According to the labour cost index, in 2018, 44 per cent of wage and salary rates did not increase and only 24 per cent rose by more than 3 per cent. The distribution of pay rises has been only creeping towards higher earnings.

Looking forward, the latest Reserve Bank survey of expectations recorded a small drop in expected annual wage inflation to 2.9 per cent for the next couple of years. In real terms that would be just about in line with what we will be earning if labour productivity trends since the recession continue.

The puzzle is why inflation and wage growth have been persistently below the inflation target despite a relatively strong labour market.

Some light is shed on that by research by Reserve Bank economist Ozer Karagedikli into a feature of the labour market which is not captured by the normal survey-based indicators.

It is the number of people who quit a firm to start another job with a different one.

That "job-to-job" flow of people switching employers between one quarter and another substantially exceeds the number of "new employees" taking a job who come from the ranks of the unemployed, or those previously classified as not in the labour force, or who have come from the airport, so to speak, as immigrants and returning expatriates.

When Karagedikli trawled through administrative data on this (it is called the linked employee and employer data, or LEED) between 2000 and 2016, he found it was a much better predictor of non-tradables inflation and wage growth than the usual indicators from surveys of a sample of households or firms.

That is not surprising given that a job applicant who already has a job is likely to be in a stronger bargaining position than one who doesn't.

And it turns out that the job-to-job flows, while edging higher lately, have been and remain much weaker since the recession than they were over the eight years preceding it.
Why might that be? Karagedikli does not speculate.

But a couple of possible explanations suggest themselves. One is that there is a growing gap between the skills employers are looking for and those the workforce can offer, whether they are already employed by someone else or not.

The other is that the housing crisis has created a real barrier to mobility of labour within the country.

Employment growth has tended to be disproportionately stronger in the Auckland region than nationwide.

But some already employed elsewhere in the country might look at Auckland's house prices and think twice about moving there, especially when most households require two incomes to get by.

Both of those factors are things that the Reserve Bank's Bank's official cash rate can't do much about.