Gains in Winston's defeat as inflation debate heats up

Winston Peters. Photo / Herald on Sunday

Winston Peters' member's bill to amend the Reserve Bank Act will be voted down at its first reading today but it has helped ignite debate over whether the act's focus on fighting inflation is now damaging the economy.

Mr Peters' bill would mean that rather than primarily focusing on controlling inflation, the Reserve Bank Governor would also have to consider the rate of economic growth, including exports, the value of the dollar, and employment when setting interest rates with the official cash rate (OCR).

United Future's Peter Dunne and Act's John Banks this week said they would vote with National against the bill, but Mr Peters still welcomed the opportunity to debate the issue.

He says the current focus on inflation means the OCR is set far higher that it should be and that is driving the dollar so high the export sector is being devastated.

"We're an export-dependent nation like few others are and therefore your monetary policy should be designed around an acknowledgment of that fact rather than just blind ideology.

"Inflation has not been a problem in this economy in a long time ... you've got to have a far wider range of issues about which the Reserve Bank Governor should be concerned when setting the rate."

But while Mr Dunne dismissed Mr Peters' bill as "populist garbage", the Reserve Bank's current orthodox monetary policy is becoming "a rarity in the global economy" according to Bernard Doyle, a New Zealand-based strategist for Australian broking house JBWere.

"Unfortunately, in a world where the major central banks are breaking all the rules, this is not an advantage," Mr Doyle said.

Labour will support Mr Peters' bill, and finance spokesman David Parker said the US was deliberately devaluing its currency through "quantitative easing" which means increasing the amount of money in circulation.

Other countries, including those using the euro, Britain and the Swiss were doing similar things which devalued their currencies and effectively drove the New Zealand dollar to "levels divorced from the fundamentals of our economy".

But the Reserve Bank Act's focus on inflation meant the bank could do little about it.

"New Zealand faces competitive devaluation abroad and we ignore it at our peril."

Prime Minister John Key this week confirmed National would vote against Mr Peters' bill. He said the Reserve Bank's policy targets agreement had been reviewed recently as required by appointment of the new Governor Graham Wheeler who replaces Alan Bollard this month.

However any changes to the Reserve Bank's focus were "very modest".

"We're comfortable we're on the right track."

Q&A Monetary policy

What is monetary policy?
Regulating economic activity primarily through manipulation of the interest rates via the official cash rate (OCR).

What is the OCR?
The benchmark interest rate set by the Reserve Bank which influences commercial banks' mortgage and other lending and deposit rates.

How does it work?
The Reserve Bank acts as a bank to the commercial banks which are able to borrow or deposit as much money with it as they like at interest rates closely related to the official cash rate.

How does it affect inflation?
Higher interest rates encourage consumers and business to curb borrowing, save more and spend less, reducing demand and reducing upward pressure on prices. Lower interest rates encourage borrowing and spending, increasing demand and driving prices higher.

How does the OCR affect the exchange rate?
When interest rates in New Zealand are higher than those in other countries, our dollar becomes more attractive to international investors who can buy it to benefit from those higher rates of return. Increased demand for the New Zealand dollar pushes it higher relative to other currencies.

Why is our high dollar hurting exporters?
A stronger New Zealand dollar means exporters receive fewer of them for their products. If they raise prices to compensate, demand for their products falls.