KEY POINTS:
When he was Governor of the Reserve Bank, Don Brash delighted in telling of the attention he received whenever he went overseas. The reason was simple. Dr Brash presided over a monetary policy framework that set the standard in terms of independence from political interference. He was the
envy of his peers. They craved a similar standing and the picture of stability that the Reserve Bank Act painted for overseas investors and New Zealand's own borrowing needs. Why would anyone wish to threaten that reputation?
Yet that is what Finance Minister Michael Cullen has done in referring repeatedly to section 12 of the act. This allows the Government to order the bank to base its interest rate decisions on factors such as the strength of the dollar, rather than giving absolute priority to the fight against inflation. Dr Cullen said he had not given any "specific consideration" to using the section, but would not rule out its use.
There have been various interpretations of this statement. Most flow from the fact that a dollar valued at about US79c is putting immense pressure on non-dairy exporters. Some said Dr Cullen was trying to talk the currency down by unnerving investors. Others, most worryingly, suggested this was an attempt to pressure Dr Brash's successor, Alan Bollard, into not lifting the official cash rate to 8.25 per cent next Thursday. Stronger-than-expected economic growth, insufficient signs of a softening housing market, and stubbornly high non-tradeables inflation have led most economists to believe an increase is probable.
Dr Bollard is now in an invidious position. If he does not increase the cash rate, he risks being seen as succumbing to political pressure. That carries clear implications for the bank's credibility on the international stage. If he does lift the rate, and the dollar sweeps higher, there is the threat of section 12 being activated, again undermining the bank's status and independence.
Above all else, Dr Bollard must protect the bank's independence. He must also hope that Dr Cullen quickly recognises the inappropriateness of his latest statement. The signs are not necessarily propitious. This is not the first time the Finance Minister has floundered while dwelling on the overheated property market. Early this year, he mooted a mortgage rate levy, a proposal that had to be swept swiftly under the carpet by the Prime Minister. His utterances on section 12 could, just maybe, have been designed merely to humour New Zealand First, Labour's confidence and supply partner. Either way, this was not the sign of a sure-footed operator.
But Dr Cullen is not the only person to have surrendered to foggy thinking. Michael Barnett, of the Auckland Chamber of Commerce, yesterday added his voice to those wanting Dr Bollard to cut, rather than increase, the official cash rate. This lobby overestimates the signs of a slowing in domestic demand, and declines to relate this authentically to the higher-than-expected inflation in the June quarter. Worse, it ignores the fact that lower interest rates would encourage borrowing - and spending on housing. The Reserve Bank, having identified that market as the main driver of inflationary pressure, must rein in demand, not fuel it. Only then can there be a sustained decline in the dollar.
Those keen to change the bank's focus neglect to mention the widespread hardship that accompanies rampant inflation. That phenomenon may be alien to many of those struggling to finance their first homes, but there is no such excuse for more senior figures.
