Ultra-low rates have already pumped up house prices. Photo / Getty Images
OPINION:
House prices not high enough for you, governor?
And should you be hammering home the message that saving is a mug's game?
Such questions are invited by the Reserve Bank's plan, about which we will hear more next Wednesday, to engineer even lower retail interest rates through a Funding for Lending Programme (FLP), potentially followed by taking the official cash rate negative next year.
The forecasts accompanying these announcements are likely to predict that the pandemic will end up costing at least two years of economic growth, that it will take a long time to recover from the trough in employment, which is still some way off, and that consumer price inflation will remain stubbornly flaccid.
All of which tells the Reserve Bank that monetary policy needs to be stimulatory.
Interest rates need to be low.
But they already are — extremely low by historical New Zealand standards.
The question is whether the marginal benefits to be gained by engineering even lower retail interest rates through unconventional monetary policy tools outweigh the costs and risks of doing so.
One of the costs — the fuelling of house price inflation with its attendant effects on inequality and intergenerational grievance — has already garnered a lot of attention. The fact that the bank, like other forecasters, expected house prices to fall should induce some humility about the reliability of forecasting in these uncertain times.
The other major impact of the plan to make ultra-cheap funding available to banks — the collateral damage to savers — should also give the monetary policy committee pause.
Interest rates for term deposits, which we are told is the most expensive form of bank funding, are already negative in real, after-tax terms.
The major banks are now offering less than 1 per cent for one-year and even two-year terms, in both cases below expected inflation rates for those periods.
Driving them lower still, which the Reserve Bank sees as a feature, not a bug, of the FLP, would be ironic.
In the early days of inflation targeting, Don Brash was wont to call inflation "the theft of people's savings". It was a line that resonated. People knew all too well what he meant after the Great Inflation of the 1970s and 1980s.
But now the Reserve Bank is willing to take on the larcenous role inflation once had by engineering negative real returns to depositors.
The message that putting money in the bank will not even preserve its purchasing power, still less offer any reward for forgoing other uses of it, is a dangerous one to send to New Zealanders.
As a nation and as a people we are not provident. For all but six of the past 25 years the household saving rate has been negative, according to the national accounts. We collectively consume more than our after-tax income. We are unusual in this.
Among the consequences are high levels of household debt relative to incomes and to gross domestic product, and high levels of foreign debt, while the business sector is capital-shallow, contributing to woeful productivity and stunted incomes.
This is a rational response to the perverse signals the tax system sends.
But the central bank should not be in the business of reinforcing it.
If rampant house price inflation and collateral damage to savers are the costs of a policy of driving retail interest rates lower still, what are the benefits and how confident can we be that they will eventuate?
Is it the cost of credit that is weighing on confidence or can we perhaps think of something else that might be deterring consumers from spending and businesses from hiring and investing?
Briefing media on how FLP and a negative OCR would work, albeit carefully non-committal on specifics of design, the Reserve Bank's assistant governor Christian Hawkesby and chief economist Yuong Ha were clear that the bank is not ready to concede that interest rates are exhausted as a means of stimulating the economy.
They stressed the bank's "least regrets" approach. They would rather do too much too soon than too little too late, because it is a whole lot harder to haul an economy out of a deflationary bog than to hose it down if it gets overheated.
Ha listed four main channels through which they see lower interest rates working. The first is cashflow. For people with existing debt, lower rates would free up money to spend.
It remains to be seen, however, to what extent people do that rather than paying down debt faster than required. And for savers, lower rates mean less money to spend. So you would not want to be dogmatic about the net impact of those responses.
The second channel is that lower interest rates would lower the hurdle rate of return for borrowing, for either business or residential investment.
But business borrowing has been weak since the pandemic struck. Business borrowing levels have fallen more than 5 per cent from the peak in April, even as interest rates have fallen, while residential mortgage debt has risen 3.3 per cent over the same five months.
Hawkesby said the Reserve Bank could not force businesses to invest; it could only create an environment such that when they were ready to do so, they would not see interest rates as an impediment.
Ha said, "Our research suggests businesses respond to the state of the economy, so if we are successful in supporting the economy through other means that is when businesses will respond — not directly to interest rates — because the border closure and uncertainty are dominating."
The third channel through which they expect lower interest rates to work is through asset price inflation (especially house prices) and the wealth effect, where homeowners are willing to spend a few cents in the dollar of their increased housing equity, even if they have to borrow to do so.
The question is whether that effect would prove greater than the impact on confidence of job insecurity. The household labour force survey released on Wednesday found that 22 per cent of respondents rated the chances of losing their jobs over the next 12 months as medium or high, only a marginal improvement on the June quarter's 25 per cent.
The fourth channel through which lower interest rates are supposed to boost the economy is via the exchange rate.
There are several problems with this. One is that the exchange rate is a relative price and the whole world is struggling with the pandemic.
Even in normal times, interest rate differentials are not the only driver of exchange rates.
And even if they were, and even if you look through any potential turbulence that might arise from the US election, the Federal Reserve has changed its approach to inflation targeting in a way that should mean it runs monetary policy easier than it otherwise would have, which has implications for other central banks too.
The bottom line conclusion is that there is more uncertainty about the potential benefits than the costs of getting creative about engineering lower retail interest rates.
Outstanding designs displayed in Whanganui, Ōtautahi and Wānaka residential buildings.