New Zealand can't outsource employment policy to its central bank
Following on听, the coalition government in New Zealand is moving quickly to mandate the Reserve Bank of New Zealand focus on 鈥溾��.
But as we鈥檝e seen in Australia and elsewhere, changing a central bank鈥檚 mandate to include employment is unlikely to change policies in the face of economic booms and busts.
The bank鈥檚听听is to maintain 鈥減rice stability鈥�. In practice, this means it adjusts its benchmark interest rate up or down with the goal of听听辫别谤肠别苍迟.
An explicit numerical target range (1-3 percent) for inflation is the key element of the Reserve Bank of New Zealand鈥檚 current mandate. New Zealand was the first country in the world to adopt such an approach to monetary policy听.
Dozens of other countries have followed suit.听听补苍诲听听were early adopters of inflation targeting, and the听听补苍诲听听adopted it more recently.
A surprising resilience, but now what?
The most striking feature of inflation targeting is that no country that adopted it has subsequently abandoned it, although some countries,听, have struggled to hit their target.
This resilience stands in contrast to the apparent fragility of all other rule-based approaches to monetary policy, the most prominent being a听听or fixed foreign exchange rates.
John Maynard Keynes famously called the gold standard a 鈥溾�� because it led central banks to slavishly target the price of gold at the cost of high unemployment. Likewise, following the global financial crisis, some economists have criticised inflation targeting and suggested central banks should focus more on听.
The New Zealand government鈥檚 push for a greater focus on maximising employment seems to echo these critiques.
So is the imminent reform of the Reserve Bank Act in New Zealand a watershed moment for inflation targeting? Will New Zealand, the first country to adopt inflation targeting, also become the first domino to fall as inflation targeting eventually joins the gold standard in the dustbin of history?
The short answer is no.
Keep moving, nothing to see here
Inflation targeting is likely to persist and the practice of monetary policy in New Zealand is unlikely to change much at all following the reform of the听.
Crucially, the New Zealand government is seeking a dual mandate for monetary policy - it will include both a numerical target for inflation as well as maximising employment.
This would put the New Zealand central bank in the same club as the听听and the听. These banks already have dual mandates, and, essentially, they behave pretty much the same as the Reserve Bank of New Zealand behaves now.
The reason inflation targeting central banks behave similarly regardless of their mandates is the so-called 鈥溾�� of monetary policy.
Because inflation is typically high when unemployment is low and vice versa (a phenomenon known as the听听- another Kiwi contribution to macroeconomics), a central bank will usually want to move interest rates in the same direction in response to changes in inflation and the unemployment rate.
Specifically, higher unemployment and lower inflation means interest rates are cut, while lower unemployment and higher inflation means interest rates are raised.
Consistent with this divine coincidence, current acting Governor of the Reserve Bank of New Zealand Grant Spencer听听that the central bank already considers employment when setting monetary policy and the reforms wouldn鈥檛 make much of a difference.
Aims, hopes, dreams鈥� reality
New Zealand Prime Minister Jacinda Ardern听听she would like to see the unemployment rate, currently at a nine-year low of 4.6%, fall below 4%.
Her finance minister, Grant Robertson,听听that, although low unemployment was a government aim, the central bank would not be given a 鈥渘umerical target鈥�.
The lack of a numerical target is key. Without any formal target the Reserve Bank of New Zealand can determine what level of unemployment is consistent with stable inflation (which听听due to demographic and other structural changes in the economy).
Responsibility for issues such as youth unemployment should be taken by the government and not deferred to or placed on the central bank. The New Zealand Labour Party鈥檚听is one example of how this might be done, although the details and its effects remain to be seen.
The central bank really only has one blunt instrument - a short term interest rate - that it needs to use to achieve its inflation target goal.
So the main practical implication of the planned reforms is that the government is clearly signalling it will appoint a new governor who places more weight on employment in making decisions. But this would always be expected given a Labour Prime Minister and could have been done under the current mandate.
Despite inflation targeting鈥檚 resilience, history suggests it is likely to be discarded or altered beyond recognition at some point in the future. Perhaps it will be replaced by听听辞谤听. But it is unlikely this will happen in New Zealand first and certainly isn鈥檛 happening now.
听
is an expert in macroeconomics and econometrics in the University of Sydney . This article was originally published on .听