The age of independence for our Reserve Bank, Te Pūtea Matua, is now over.
This article was first published in Bernard Hickey’s newsletter The Kākā.
In an unprecedented move in the modern history of our political economy, finance minister Grant Robertson yesterday defied the publicly stated objections of the opposition and reappointed Adrian Orr as Reserve Bank governor for a full second five-year term, effectively destroying what remains of the bank’s record since 1989 of it being seen to be politically independent and above the partisan politics of the day.
That 33-year-long era of neither major political party either publicly attacking the bank or expressing a lack of confidence in its governor is now over, leaving financial markets to hope that if National-Act is elected next November that Orr either stands down immediately, or is dismissed and replaced without too much fuss before he has to make any big decisions that clash with the new government’s views.
The fear is that during a more-than-awkward interregnum while the sitting government holds an independent review into what it sees as a failing bank and governor, that some form of economic crisis happens when the monetary and fiscal policy arms of government are clearly divided and at odds.
The most recent example of that was in Britain last month where a new prime minister pursued a reckless and expansionary fiscal policy of unfunded tax cuts while the Bank of England was trying to tighten monetary policy to control inflation. The clash eventually ended when Bank of England governor Andrew Bailey threatened to stop printing money to buy government bonds, forcing the ruling Conservative Party to remove Liz Truss as PM. Just last week, Bailey had to publicly deny having effectively staged a coup.
A less modern but more local and pertinent example is the constitutional crisis that happened in Aotearoa on the Monday and Tuesday after the July 14, 1984 landslide election loss of then prime minister and finance minister Robert Muldoon. Treasury and Reserve Bank officials had to close currency markets on the Monday because Muldoon refused their advice to devalue the currency.
The NZ dollar collapsed on the Tuesday when markets opened without certainty about who was in charge and what would happen. The situation was only resolved when Reserve Bank governor Spencer Russell and deputy governor Roderick Deane approached senior members of Muldoon’s caucus on the Wednesday, who then held an emergency caucus meeting and forced Muldoon to devalue. Those three days of turmoil led to the eventual creation of the 1989 Reserve Bank Act to ensure the Reserve Bank controlled monetary policy, rather than ministers, and that it was seen as politically independent.
Arguably, we were the first in the world to create an independent inflation-targeting central bank that financial markets believed would run monetary policy for economic rather than political purposes.
So what just happened?
Given that history, the very real perception that our Reserve Bank and its governor should be and are politically independent is foundational to Aotearoa’s modern political economy. Yesterday that perception collapsed under the weight and wear and tear of nearly three years of extraordinary events and stresses in and around parliament, the beehive and across the road at Number 2 ,The Terrace.
Finance minister Grant Robertson yesterday announced he had reappointed governor Adrian Orr for a full second term that is not due to end until March 2028, well after the potential end of a first term of a National-Act government. Robertson said he accepted the unanimous recommendation of the board, but he did it after Willis formally wrote to him calling for only a one-year extension, and only after a fully independent inquiry into the bank’s actions over covid. Act leader David Seymour has also objected to Orr’s reappointment.
National began rattling its sabres on this publicly back on July 26 when it called for a fully independent inquiry into monetary policy and Orr’s actions. Here’s my analysis from July 27 of that move.
Really? Is this really that unusual?
To give readers a sense of the strength of language and the unprecedented nature of the political division over Orr’s re-appointment, it’s worth looking at what Luxon and Willis said yesterday after Robertson’s decision, and how it has compared with previous sets of relations and appointments of Reserve Bank governors.
Willis told the press gallery in parliament yesterday that reappointing Orr without doing a truly independent review of his actions in 2020 and 2021 was a “serious mistake.”
She and Luxon went on in the news conference to be even more critical.
“The government’s refusal to even ask these questions shows contempt for the New Zealand public. It’s not enough for the minister of finance to lean on the endorsement of the board he helped appoint. He should have kicked off a thorough external review to satisfy himself and New Zealanders that the bank did the best it could have. Instead, he has directly shied away from any semblance of accountability.” – Willis.
Willis and Luxon said that if elected in a year’s time, they would immediately launch an independent inquiry into the bank’s actions, including whether they inflated bank profits. They rejected the legitimacy of an internally-sponsored review due on Thursday, including peer review by international experts.
“It’s absolutely hypocritical for Jacinda Ardern and Robertson not to have an independent review of the Reserve Bank and monetary policy actions that have contributed to large bank profits. They are actually marking their own homework at this point.” – Luxon.
‘Include the boost to bank profits in the review’
“I would immediately inquire into the impact monetary policy decision making has had. How much has that money printing added to the bottom line for banks? How much have they benefited from really cheap lending? And how much of that is being passed on?” – Willis.
Challenged on whether the opposition was endangering the perception the Reserve Bank was independent with such virulent criticism, Luxon said:
“We’ve been very conscious of our responsibilities here. That’s why for months, we’ve been telegraphing our concerns by saying please do an independent review.”
Willis said the internal review was unacceptable. Asked if she would accept the review, she said:
“No, we don’t think that is independent as the bank has handpicked its own people to do that. It’s been done by staff at the Reserve Bank. How fair is it to say to staff at the Reserve Bank: ‘Hey, did your boss do a good job?’ Of course, they’re going to have to say yes.”
The peer reviews were from non-Reserve Bank staff, Australian academic Warwick McKibbin and former Bank of Canada deputy governor Lawrence Schembri, but Willis suggested that’s the equivalent of marking your own homework “then pick[ing] your favorite teacher to tell you whether or not you’ve done a good job”.
‘Should have been just a one-year extension’
Luxon also criticised the government’s decision to reappoint for five years, rather than one year, which would have allowed a National-Act government to appoint a compatible governor.
“We’re quite shocked by it to be honest with you, because our view has been very clear and Nicola expressed that, I thought incredibly well, in her letter to Grant Robertson saying, ‘Hey, listen, we think it’s appropriate that you follow convention, which would be to appoint for a year, and so we can get through the election period of time.’”
So is National justified in blowing up independence?
One challenge to the idea that the era of independence is now over is to say this is just a rogue opposition leader and finance spokesperson breaking a 33-year bipartisan approach to not singling out the bank or its governor for such specific and personal criticism. Essentially, the criticism would be that National has recklessly broken the pact for short-term and selfish political purposes.
The problem for the Reserve Bank as an institution and the Labour government is that their approach and actions since Covid were far from normal, or at arms-length, and often by necessity.
Take, for example, the multiple letters of permission and memorandums of understanding jointly signed by Orr and Robertson during and since the first lockdown started on March 26, 2020, including:
- The permission for the Reserve Bank to launch and expand its Large Scale Asset Programme (LSAP) to buy up to $100b of government bonds to lower long term mortgage rates;
- the government’s indemnity for Reserve Bank losses on that programme, which by the way the Reserve Bank of Australia did not get from its government;
- the government’s agreement to the Reserve Bank’s April 2020 removal of LVRs, which was a step other central banks did not take; and
- the Reserve Bank’s creation of a Funding for Lending Programme (FLP) of cheap lending for banks in December 2020 that is still open until the end of this year and has grown to $16.4b.
It was relatively easy for the Reserve Bank to remain independent when it only had one tool for managing monetary policy, the OCR, and its regulation of banks (and now insurers) was relatively uncontroversial. In essence, the Reserve Bank was “only’” running the economy in a politically neutral way that did not redistribute income or wealth, or obviously “punish” or hurt particular parts of society or groups of voters. That is arguable, given the pain workers had to take in the early 1990s to beat down inflation, but it was at least a bipartisan agreement and never contested in public by either the government of the day or the leaders of the opposition.
Central banks can’t be independent any more
But that simplicity started dissolving in 2013 when then-governor Graeme Wheeler introduced the Loan to Value Restrictions, which effectively discriminated against first home buyers and were eventually used to target rental property investors as well.
Where once the central bank could at least argue credibly that its decisions were not discriminating against one group in society over another, the LVRs immediately became a political issue. The then-National government of PMs John Key and Bill English, who appointed Wheeler, begrudgingly approved of the first version of LVRs, but behind the scenes there was plenty of argy bargy. The beehive felt blindsided and pushed back in 2017 when the Reserve Bank also wanted to impose debt-to-income multiple controls.
In the end, English blocked the DTI plan and decided not to reappoint Wheeler for a second term, who was succeeded by a “place-holder” interim governor Grant Spencer, who, by the way, loosened the LVRs during his short time in charge. But English never criticised Wheeler in public and Robertson was also wary in public of “playing the man” by criticising Wheeler, albeit he was critical of the LVRs.
Luxon interpreted English’s decision to appoint Spencer as an interim governor for a “caretaker” period as a “convention”, but in reality, if English had wanted to reappoint Wheeler he could have. It’s clear from these cabinet papers that English and Key had decided as early as August 2016 not to reappoint Wheeler for a new term starting in September 2017, right at the same time as the election. But the appointment timetables were engineered to ensure a caretaker. The excuse of a “caretaker” period was easy to fall back on in February when the final decision was made, but it would have been much tougher if Key and English were happy to reappoint Wheeler. Even by then, the role was beginning to become more political.
Monetary policy made one class of NZers $1 trillion richer
By early 2020 when the prospect of near-zero percent interest rates beckoned and the Reserve Bank was looking at its options for alternative monetary policy tools, it was becoming clearer that monetary policy and prudential policy decisions were becoming much more political.
Money printing exercises in the United States in particular were seen enriching those with assets and widening inequality, but those debates never took place here. The assumption was that these alternative tools would be “distributionally neutral”, which is true between home-owners, but not between home-owners and renters. We knew that money printing worked as a monetary policy tool by making the wealthy wealthier and hoping they’d spend some of their “wealth effect” to boost the economy.
The lack of self-awareness or contrition was the final straw
The Reserve Bank’s decisions essentially added $1 trillion to the wealth of home-owning households and it was clear in public to everyone except the Reserve Bank, Treasury and the finance minister’s office.
The repeated denials that anything much had changed or was wrong became laughable. A range of Treasury and Reserve Bank papers even went so far as to say it was not clear that quantitative easing had widened inequality, even though both Robertson and Orr were advised in those frantic days at the beginning of covid that QE would make the wealthy much wealthier.
The refusal of both Adrian Orr and Grant Robertson to acknowledge any mistakes or publicly have any regrets has been the final straw. The Labour government’s additional decision to give $20b in cash to businesses during covid, but not to give significant extra cash support to beneficiaries and poorer working families, as recommended by its own Welfare Experts Advisory Group, simply added to the weight on that straw.
Inflation’s breakout to 7% meant there was no way back
The moment it broke in public was earlier this year when inflation refused to cooperate with the plan and blew out to 7.2%. It is not expected to get back down into the legislated and agreed target range of 1-3% for another couple of years.
The Reserve Bank’s recent annual report and statement of intent don’t even mention the failure to hit the bank’s inflation target. It’s as if it never happened. It also wasn’t mentioned in Robertson’s reappointment letter.
The opposition’s increasingly alarmed public statements should have been red flags to the board of the Reserve Bank and to Robertson that the perceived independence of the bank was at stake.
Was this inevitable anyway?
But could this fracture in the landscape of our political economy have been avoided?
To be fair to the Reserve Bank and Orr, it was clear by early 2021 that there had been too much stimulus and the rebound was dangerous. The Reserve Bank stopped money printing before other central banks and started hiking interest rates before others (although this makes the continued operation of FLP even more nonsensical).
But by then the horse had bolted and Orr’s “no regrets” approach in public and select committee hearings since then became jarring and abrasive for both the politicians and the Reserve Bank’s grandees, such as Arthur Grimes, Graeme Wheeler and Grant Spencer, who have been shockingly critical in public.
I think the Reserve Bank and Robertson could have retrieved the situation with a lot more humility about what happened, and a franker assessment of what it meant for the Reserve Bank’s future. Apologies matter and help to heal relationships, even if they don’t change the facts on the ground. Failing to achieve your core role and then not acknowledging it in public is beyond credible.
Would National have done it differently? Probably not.
Another way to approach this issue is to ask if a National government and a different governor would have done it differently and allowed the independence to be maintained.
The slightly awkward thing for National at least (Act did pipe up at the time), is that it never truly challenged the money printing, the removal of the LVRs and the FLP when the Reserve Bank and government agreed to launch them in those dark early days of Covid.
I doubt a finance minister Willis and a different Reserve Bank governor would have been able to do or have done much different. I think the removal of the LVRs was the outlier that created the most damage, but I doubt Willis would have fought to keep them if a different governor also wanted to remove them. I also doubt National would have been able to stare down the Reserve Bank in its desire to print money, given the Fed, Bank of Japan and European Central Bank had already being doing it for more than a decade, apparently without too much damage (for asset owners that is). We all know differently now.
So what now?
Our central bank can’t be truly independent any more when it now makes decisions all the time that redistribute income and wealth in such a fundamental way.
That era of Reserve Bank independence effectively ended in those frantic weeks of March and April of 2020. Now we are just keeping the score and waiting to see who has more points at the end.
It would make much more sense to acknowledge that a finance minister and a central bank governor should be simpatico enough to work together and we just have to hope we don’t get another Muldoon, and that our other checks and balances help avoid that. The awkwardness of five-year terms for governors and three-year terms for governments always had the capacity for conflict. It’s sort of remarkable this hasn’t happened before. The fact it hadn’t, even when Don Brash worked from 1999 to 2002 with Michael Cullen and Helen Clark, shows how foreign the situation is that we find ourselves in now.
That anomaly of a five-year term for governor being out of step with the three years for a government needs to be fixed, potentially by making Reserve Bank governor’s terms either six years or three years, with a limit of two terms.
