Archive | Economy

Trump, China, and what’s it got to do with us?

This article is a summary about position-taking, influences, and the broad impacts on New Zealand. It doesn’t quote anybody, but contains conclusions derived from wide reading. That’s time-consuming, but I figure this is a valuable exercise if you’re looking beyond your nose for pointers of economic direction & property market changes.

Donald Trump’s role in both his campaign for the US presidency and as president has been to disrupt the status quo.

Although he’s hired many people with experience in “deep state” roles, their tasks have been to support his disruptive campaign. Some failed the adjustment.

Mr Trump’s additional roles have been to pump up the US’s prospects as an economic performer, and to continue the US’s insistence on holding hegemonic international power.

Mr Trump has had a privileged upbringing, and in business he’s used other people’s money. Where there’s been failure, as in business bankruptcy, he’s loaded the consequences on to his lenders.

He’s taken the same approach internationally, hence his battles with China, and he’s in the process of changing the economic rules.

The US had a public debt mountain when he took office, and he’s grown it, even before you count the huge expansion in military spending. The US Federal Reserve wants to reduce the debt it created through quantitative easing and has been slowly clawing back treasury stock, and cautiously lifting its target interest rate.

Neither of those practices suits Mr Trump, who wants a low interest rate to keep public debt repayments down, which also keeps asset prices up, and wants plenty of money available for business to thrive.

Since Mr Trump started his trade war with China, the suggestion has frequently been made that China might slash its holdings of US treasuries to spite him, but that prospect looks less & less likely. China has already found it doesn’t have the same volume of exports on which to place tit-for-tat tariffs, has seen its international reserve decline and faces a worsening economy at home. One thing it has achieved is to shift some international transactions into other currencies – its own & Russia’s in particular.

China is in the middle of a transformation from mass exporter of low value goods to a more intelligent economy based on greater skilled input, but on that journey it has to deal with performances by local government entities which have spotted investment opportunities, both locally & internationally, only to find the glitter can wear off.

Like many Chinese investors keen to shift cash offshore and into assets, Chinese corporates went shopping around the world, outbidding each other as they searched for chest-thumping acquisitions, only to find that the return on overpriced assets tends to be unsustainable.

New Zealand developers have employed Asian investors for 2 decades as seed investors in apartment projects, which wouldn’t have been built if local investors were the only source of funds. But market downturns, as is happening now, mean the off-the-plan investor is more likely to lose (or make much less) with a sale on project completion. Apartment developments are still being planned, but their timing will depend to a large extent on how these bigger international manoeuvres work out.

China has used devaluation to combat the Trump trade war manoeuvres. US commentators are loud in describing devaluation as currency manipulation, but not calling out the strong-arm tariffs as equal manipulation.

Both these countries – and many others, including New Zealand – want their currencies down to encourage exports and discourage imports, but devaluations only work if other countries you trade with aren’t doing the same thing.

As this currency battle spreads, trading relationships will change. China can end the Trump trade war by conceding on intellectual property allegations – the most likely outcome, although it will take some time to occur as China looks for ways to circumvent the concessions – or it can look for alternative markets.

In that alternative pursuit, China & Japan have become friendlier, China is looking to conduct more trade with South-east Asia, and China & India are looking at stronger relations, replacing their animosity.

China’s Belt & Road initiative, a project with long-term structural consequences for international trade and also for political power strategies, is winning initial positives despite allegations of abuse of debt positions. But the Belt & Road enters the hegemony fray: while the colonial & subsequent western dealing with Africa was largely a matter of take with little give, China is going in offering sorely needed infrastructure development.

The same difference is going to apply in the Pacific Ocean, where western support for small island nations was begrudging. Now those dots in the ocean are becoming important spots in the hegemony struggle, and support will switch from donations to highly priced access fees.

All of these battles will have serious impacts on New Zealand’s economy – some positive, some negative.

Although New Zealand is big compared to the other island nations, this country will also become a target in the hegemony battles. We are never going to be a military power, so we will need other means of defence. One of those is likely to be to trade with both sides in other battles. Another will be to grant access without allowing domination. Our moralistic streak may have to be subdued and our historic allegiances further tested.

If you look at the international & New Zealand pictures as I’ve painted them here, you will see potential for very good times – and also harrowing periods if we get it wrong.

One of the big questions in international finance at the moment is the worldwide bubble in investment, pumped up by national debt, along with negligible interest rates which encourage asset price escalation. How long can it last? And what happens when the merry-go-round stops?

Factors affecting the answers to those 2 questions are numerous, but those you can most rely on are the outcomes of 2 elections – the pending mid-term vote in the US, scheduled for next Tuesday their time, and the 2020 US presidential campaign.

The mid-term vote could see the Democrats locked in a power struggle with the president, or Mr Trump set free to continue as he pleases. Whatever the outcome internally, US dealings with the rest of the world are unlikely to change radically in the short term. No matter who is in power in the US, it is a country that fronts the world with a self-belief that nobody matches; it’s a nation born to be in charge, no matter that so often it does this badly.

New Zealand is likely to become a sanctuary, and therefore a target for investment. That will place New Zealand in a positive light, at least for the short term.

Feel free to disagree, open my eyes, suggest other options.

Attribution: Bob Dey.

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Putting change in context

Over the last 3 days the Government has provided context for change.

Finance Minister Grant Robertson made the change in direction from the previous National-led government distinct yesterday in a speech to the Local Government Association’s annual conference in Christchurch.

His central point is to move away from the purely economic measure of gross domestic product (gdp): “We are taking a broader view of success, by looking at how we improve the living standards & wellbeing of all New Zealanders.”

He also wants to replace the broken local council funding system, but that at the moment is a more complicated story.

Housing & Urban Development Minister Phil Twyford’s aims & preferred methods are distinctly different from those of predecessor Nick Smith, as he made clear in a visit to Mangere on Friday for the start of the programme to regenerate Housing NZ stock: “This is a first for a total joined-up approach for transitioning infrastructure & regeneration.”

And in tertiary education, Education Minister Chris Hipkins advanced his thinking on Friday on appointing a commissioner to replace the board at Unitec. From what I can see in board documents, Unitec’s problems were more about national governance than what Unitec itself was trying to achieve, but the outcome ought to be a vast improvement in handling education for trades, particularly those related to construction. The aim: to prioritise vocational education & training after a period when funding clearly didn’t match that aim.

I’ve posted separate articles on Mr Robertson’s speech and Mr Twyford’s visit to Mangere. You can also check the links below to Mr Robertson’s speech and Mr Hipkins’ brief statements on Unitec (no story on that one at the moment).

My own view:

I haven’t analysed the wellbeing & living standards framework methods of calculation, but I know gross domestic product is a poor measurement which was being misused. For some time I’ve preferred to calculate GDP per capita to see if New Zealand’s economy was actually strengthening, given that 4 years of high migration inflows ought to lift overall production, but not (at least immediately) raise growth/head.

Related stories, 16 July 2018:
Putting change in context
Robertson outlines focus shift from GDP measure to wellbeing
Demolition starts on Mangere regeneration project
Finance minister calls Productivity Commission in to examine local body funding

Attribution: Government announcements.

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Robertson outlines focus shift from GDP measure to wellbeing

Finance Minister Grant Robertson outlined yesterday how the Government intended to revert to the 2002 version of wealth as a target for the nation – wellbeing, instead of gross domestic product.

In a speech to Local Government NZ’s annual conference in Christchurch, Mr Robertson said the coalition government elected last year recognised that it faced major challenges, and couldn’t tackle them alone. He outlined how central & local government could work together to achieve better outcomes for all New Zealanders.

The central focus of Mr Robertson’s address:

“For us in central government, this means doing things differently and measuring success differently.

“Previous governments have measured success in terms of economic growth – simple measures such as GDP (gross domestic product). But while measures like GDP remain important indicators of economic activity, they do not paint a full picture of people’s wellbeing or living standards.

“Many of our international peers have been envious of the GDP growth New Zealand experienced in recent years. But we’ve also seen increases in statistics that suggest that growth did not result in real tangible improvements to many people’s lives.

“For example, our levels of homelessness have been described as the worst in the OECD; the number of children living in poverty is not something we can be proud about, and tens of thousands of our young people are not in employment, education or training. This is not success.

“We believe that economic growth is a means to an end, not an end in itself. We are taking a broader view of success, by looking at how we improve the living standards & wellbeing of all New Zealanders.

“By placing wellbeing at the heart of what we do, we will be able to measure the extent to which our policies & investments are making real improvements to people’s lives.”

The living standards framework

Enter the living standards framework (LSF), which Treasury is developing: “The LSF uses a set of indicators for the current wellbeing of New Zealanders, and for their future wellbeing, based on the stock of the 4 capitals which determine intergenerational wellbeing: financial/physical, natural, human and social.

“This work will underpin our world-first Wellbeing Budget in 2019. This budget will be the first major step for the Government in applying a wellbeing framework to strategic decisions.

“Wellbeing is not only driven by central government actions. We recognise the crucial role local government plays in maintaining & enhancing New Zealanders’ wellbeing through the services, infrastructure, regulations & placemaking you provide to your communities.

“This was factored into the original Local Government Act 2002, by requiring local government to focus on promoting the social, economic, environmental & cultural wellbeing of communities, in the present & for the future. However, in 2012 the previous government removed these 4 wellbeings from the act, arguing that local government needed to be ‘streamlined’.”

Wellbeing bill before select committee

The Local Government (Community Wellbeing) Amendment Bill, which is before a select committee, is intended “to restore the wellbeing needs of communities to their rightful place as a central focus of local government decisionmaking, recognising the important role local government plays in ensuring people’s wellbeing.

“There is an obvious overlap with the 4 capitals of the Treasury’s LSF, meaning that both local & central government will soon be working with a closely aligned core focus on improving the wellbeing of our people.”

The power game

The Robertson line also shifts the use of power, which was firmly at the centre under the previous government, until long negotiations wrought change in the Auckland transport alignment project (ATAP) between the Government & Auckland Council.

That revised project was in sharp contrast to the approach of former housing minister Nick Smith over Auckland Council’s questioning of aspects of the government-council housing accord & special housing areas, where the minister told the council that, if it didn’t act quickly, the government would take over the housing area approval process.

Mr Robertson: “The relationship cannot be Wellington telling you what to do. Rather, we want to work with you to help deliver local solutions to local issues.

“For example, with our Provincial Growth Fund we aren’t taking a top-down approach. We aren’t interested in coming to tell you what you’re good at and what you should invest in.

“The ideas are better generated from the ground up. We want you to tell us what would benefit your region. That’s the only way such an initiative will work.

Funding solution required

“But we understand that for local government to be in a position to provide local solutions, you need the ability to finance them.

“We know there has been a huge increase in demand for investment in infrastructure all across the country.

“The previous government did not recognise the scale of development, maintenance & replacement of infrastructure needed to support a rapidly growing population and a surge in international visitor numbers.

“Infrastructure investment plays an important role in increasing housing affordability, by allowing for new developments to take place and catering for increasing demand on existing systems.

“We recognise there are some constraints that are preventing local authorities from effectively funding their obligations and from financing community expectations. Some of these can be described as ‘hard’ constraints, while others may be ‘soft’:

  • Hard constraints could be regulatory or legislative barriers that prevent local authorities being able to fund or finance infrastructure;
  • Soft constraints could be factors that influence the behaviour & practice of local authorities.

“Addressing the challenges of infrastructure funding & financing (IFF) is a key pillar of the urban growth agenda (the UGA). The UGA is an ambitious & far-reaching programme designed to improve housing affordability for New Zealanders by addressing the fundamentals of land supply, development capacity & infrastructure provision.

“IFF is specifically about reforming the existing system to provide a broader range of funding tools & mechanisms, as well as creating alternative financing models. The underlying question is whether there are funding or financing constraints hindering the timely rollout of infrastructure.

“Efficient construction of infrastructure in support of urban developments is, of course, a key determinant of the rate of land supply & therefore housing affordability.

“Different councils face different issues, yet affordability, availability of funding streams & appropriate pricing are key to any solution. We acknowledge that some high growth councils are up against their debt limits, so financing is the key constraint. That’s why we are also exploring the potential for diversifying the available sources of project financing.

“Project financing requires a dedicated revenue stream to service that capital; a revenue stream derived from charges for the provision of the infrastructure.

“The ability to identify & charge beneficiaries influences the viability of those projects, and so provides an important signal as to which projects should proceed & when. So, there is an efficiency element to this work as well.

“Central government will be exploring ways to get past funding & financing barriers. Yet we cannot do this in isolation. This is about partnering with local councils to ensure that you have the tools to provide the much needed infrastructure for your communities.”

Finance Minister Grant Robertson, 15 July 2018: Full speech to Local Government NZ conference

Related stories, 16 July 2018:
Putting change in context
Robertson outlines focus shift from GDP measure to wellbeing
Demolition starts on Mangere regeneration project
Finance minister calls Productivity Commission in to examine local body funding

Attribution: Robertson speech.

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The budget (for what it’s worth)

Government budgets used to be about micro-managing things like tax hikes increasing the prices of cigarettes & beer & petrol. They’re still about micro-managing, with some subtle touches.

One of those subtleties is that the spends are announced as totals but the sums coming from the Government coffers are trickled out. The new trick is the 4-year spread, through 2 election campaigns.

Yesterday’s election-year budget was very much about reducing the opportunities for the Opposition to campaign, and the Government’s done this with social welfare handouts & investments.

It’s a slow awakening for a government which has been reactive through its 3 terms, and it’s a questionable one.

Many of the measures announced yesterday & through preceding months increase dependency on the state, and not just for poorer citizens. Business, innovators, exporters – everybody has a potential handout to stretch their fingers out for. Ironically, socialism creep from a supposedly capitalism-supporting government.

If you think about why dependency is increased, you’ll find 2 reasons. One is that management of basics like housing construction and the control of economic inputs like migration has been abysmal, hurting those at the bottom of the pile but also causing widespread damage for everyone trying to go about their business.

The answer is to pay handouts, when for a government of this one’s ideology it should be about creating the basis for a thriving private sector, which would reduce the need for handouts.

The other reason is that support for private enterprises has been structured as handouts, instead of being in the form of facilitation. There’s a small but essential difference, partly due to the control factor but, more importantly, due to the inability to understand how to lift an economy.

One potential beneficiary has fared less well, and that’s Auckland. The Government didn’t trumpet too loudly that it’s finally paid the entry fee to Auckland’s city rail link project, but it did state once more that roads are the way ahead.

Every Aucklander knows that alternatives are imperative before the region is consumed by total gridlock, but roads are where the big infrastructure money has been directed.

In summary:

It’s a budget which displays largesse, which will be lapped up by a nation of beneficiaries.

It’s a budget aimed at winning an election through the offer of small individual gains, not at demonstrating what it could have been used for: demonstrating prowess at advancing the nation economically.

Treasury, Budget 2017
Labour on budget
Greens on budget
NZ First: Budget a ploy to hide crises

Attribution: Budget documents, my comment.

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Reserve Bank releases capital adequacy issues paper

The Reserve Bank published an issues paper today on regulation of banks’ capital adequacy.

It’s seeking feedback by Friday 9 June and will follow up with detailed consultation documents on policy proposals & options for each of 3 components later this year, with a view to concluding the review by the first quarter of 2018.

Deputy governor Grant Spencer foreshadowed the broad-ranging capital review in March, in a speech in which he compared the average housing risk weights of large banks in 6 countries.

New Zealand was clearly the most heavily weighted towards housing at 28.3%, followed by Australia at 23.5% (and its bank overseers also tightening the reins), then a long way back to Denmark 13.9%, the UK 11.7%, Canada 7.2%, Sweden 6.8%.

The Reserve Bank aims to identify the most appropriate capital adequacy framework, taking into account experience with the current framework & international developments.

The review will focus on the 3 key components of the current framework:

  • The definition of eligible capital instruments
  • The measurement of risk, and
  • The minimum capital ratios & buffers.

Paper sets out 2 sides

In its issues paper summary, the bank said it recognised the need to balance the benefits of higher capital against the costs, but set out 2 sides to the argument: “It is expected that a higher level of capital would reduce the probability & severity of bank failures and would smooth out credit cycles.

“But banks typically argue that capital is a costly source of funding and that if they had to seek more of it they would need to pass on costs to customers, leading to reduced investment & growth.

“There has been debate about the extent to which these costs reduce national welfare. In one view the capital levels of banks are inefficiently low because of implicit government guarantees of creditors or other incentives. Raising the minimum capital requirement restores efficiency by reversing the implicit subsidy to bank shareholders, and in this way improves overall welfare.

“A growing number of academics, most notably Anat Admati from Stanford University & Martin Hellwig from the Max Planck Institute for Research on Collective Goods (as well as some regulators) have argued that the costs to society as a whole of higher capital are very low and that capital requirements should be much higher than they are now.

“These authors are associated with the ‘big equity’ view and are distinguished by the extent to which they see significant increases in capital as being possible without net negative economic impacts.

“Empirical studies have attempted to quantify the costs & benefits of increasing capital requirements, and to determine the optimal capital ratio which has the greatest net benefit. In the more mainstream studies the Reserve Bank has considered so far, a typical optimal ratio is about 14%, but estimates do vary widely (the range is roughly 5-17%). The Reserve Bank will continue to review & assess these studies, but also welcomes the views of submitters on this issue.”

The bank said that, at this early stage of the review, it hadn’t formed a view on the final calibration of capital requirements, but said it was likely to take into account the studies it had seen, as well as empirical evidence.

Review of the capital adequacy framework for registered banks
Grant Spencer’s March speech

Attribution: Bank release.

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Joyce lifts infrastructure intentions and talks new operating mechanisms

New finance minister Steven Joyce (pictured early in his career as a sod-turner) looks to have increased the annual allocation to capital infrastructure spending from $900 million to $4 billion for the 2016-17 financial year, with the promise of upping the budget for the following 3 years by $4.3 billion.

Mr Joyce took over finance from Bill English in December, in the reshuffle following Mr English’s appointment as prime minister. The country goes to a general election on 23 September

Under the more conservative English programme, the allocation to capital infrastructure over the next 4 years was $900 million/year. Mr Joyce said yesterday the focus would be on the infrastructure that supports growth, and those annual allocations would rise to $2 million in the 2017-18 financial year and $2.5 billion in each of the following 2 years.

Both the Property Council & Infrastructure NZ focused on the $11 billion figure Mr Joyce waved in front of them, which included the $3.6 billion already budgeted.

Property Council chief executive Connal Townsend said a lot of the country’s infrastructure was at the end of its useful life and he expected asset replacement would feature prominently in the Budget: “Government’s announcement is a recognition that houses & commercial properties do not exist in isolation but need to be supported by infrastructure such as roads, schools & hospitals….

“Under-investment in infrastructure creates significant deadweight losses for the wider economy. Property Council is pleased that Government recognises this. Infrastructure spending must be seen for what it really is. It is an investment in our cities and a productive input into the wider production process, rather than a mere cost.”

Infrastructure NZ chief executive Stephen Selwood said: “This is a massive increase and the largest capital investment commitment by any government since the 1970s. But it must be said that New Zealand’s growth challenge is the highest it has ever been, and meeting population demands requires the services for a city larger than Nelson to be added every year.

“Added to the growth challenge is New Zealand’s historic under-investment in infrastructure. The reality is that it would not be difficult to spend $11 billion in 2017 alone.”

Mr Joyce said: “We are growing faster than we have for a long time and adding more jobs all over the country. That’s a great thing but, to keep growing, it’s important we keep investing in the infrastructure that enables that growth.”

“We are investing hugely in new schools, hospitals, housing, roads & railways. This investment will extend that run-rate significantly, and include new investment in the justice & defence sectors as well.”

Mr Joyce said the budgeted new capital investment would be added to the investment made through baselines & the National Land Transport Fund, so the total budgeted for infrastructure over the next 4 years would be about $23 billion.

He said the Government wanted to extend that further, with greater use of public-private partnerships and joint ventures between central & local government & private investors.

“As a country we are now growing a bit like South-east Queensland or Sydney, when in the past we were used to growing in fits & starts. That’s great because we used to send our kids to South-east Queensland & Sydney to work, and now they come back here. We just need to invest in the infrastructure required to maintain that growth. Budget 2017 will show we are committed to doing just that.”

Mr Joyce will give details of the initial increase in the May Budget.

Attribution: Ministerial release.

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Leading banker takes Australian politicians to task on governance, finance, infrastructure, urban prospects

Australian politicians’ ears must have been burning when bank chief Ken Henry addressed the country’s Committee for Economic Development in Canberra on Thursday, because he wasted no words in portraying the destruction – instead of construction – of a sound future they continued to guarantee.

The Unconventional economist on MacroBusiness, Leith van Onselen, wrote: “Dr Henry pulled no punches in admonishing the Government’s negligence in managing Australia’s mass immigration programme.”

Mr van Onselen also raised questions arising from Australian Productivity Commission reports, including An ageing Australia: Preparing for the future.

But migration & age were just 2 of the questions raised by Dr Henry, who chairs the National Australia Bank. He talked about the notion that endless growth was a practical proposition for Sydney & Melbourne, how every proposal for major infrastructure was drowned in political wrangling and – in the sector he knows best – how every tax reform proposal of the last decade had failed.

Below are some excerpts from his speech:

Business at odds with community

“According to our research, Australian businesses see our strong rate of population growth as a positive. …. In the broader community, there is considerably less support for a larger population. People are concerned about the impact of a growing population on traffic congestion, urban amenity, environmental sustainability & housing affordability. And they worry about our ability to sustain Australian norms of social & economic inclusion. These concerns are understandable.

“Australia’s business leaders have to accept responsibility for ensuring that strong population growth, and the investment opportunities that go with it, lift economic & social opportunity for all, without damaging the quality of the environment we pass to future generations. That means that we have to take an interest in traffic congestion, housing affordability, urban amenity & environmental amenity, including climate change mitigation & adaptation….

“If we want better access to skilled domestic workers, then we are going to have to offer those workers the prospect of better lives. If we want modern & efficient infrastructure, then we are going to have to take an interest in the design of our cities; we are going to have to take an interest in regional development; and we are going to have to take an interest in the planning of new urban centres.

“If we want less red tape & less regulation, then we are going to have to demonstrate that regulation is not necessary….

“Meanwhile, our politicians have dug themselves into deep trenches from which they fire insults designed merely to cause political embarrassment. Populism supplies the munitions. And the whole spectacle is broadcast live via multimedia, 24/7. The country that Australians want cannot even be imagined from these trenches….

“Almost every major infrastructure project announced in every Australian jurisdiction in the past 10 years has been the subject of political wrangling. In the most recent federal election campaign, no project anywhere in the nation – not one – had the shared support of the Coalition, Labor & the Greens.

“Every government proposal of the last 10 years to reform the tax system has failed.

“And the long-term fiscal, economic growth & environmental challenges identified in 4 intergenerational reports over the past 15 years?  The opportunities identified in the White paper on Australia in the Asian century? Simply ignored.

“The reform narrative of an earlier period has been buried by the language of fear & anger. It doesn’t seek to explain; rather, it seeks to confuse & frighten.

“Meanwhile, the platform burns.”

Growing Sydney & Melbourne

Dr Henry also spoke about the Australian budget & tax system, a strongly growing but aging population, climate change & energy security, and making the most of the Asian century.

“How will we fund the biggest infrastructure build in our history? And what about infrastructure planning?” he asked, before questioning the sense in adding 7 million people to the populations of Sydney & Melbourne:

“On the basis of official projections of Australia’s population growth, our governments could be calling tenders for the design of a brand new city for 2 million people every 5 years; or a brand new city the size of Sydney or Melbourne every decade; or a brand new city the size of Newcastle or Canberra every year. Every year.

“But that’s not what they are doing. Instead, they have decided that another 3 million people will be tacked onto Sydney and another 4 million onto Melbourne over the next 40 years.

“Already, both cities stand out in global assessments of housing affordability & traffic congestion.

“And even if we do manage to stuff an additional 7 million people into those cities, what are we going to do with the other 9 million who will be added to the Australian population in that same period of time? Have you ever heard a political leader addressing that question? Do you think anybody has a clue?

“At the very least, we are going to have to find radical new approaches for infrastructure planning, funding & construction. And that includes energy infrastructure, critical to our economic performance and our quality of life.

“The biggest challenge confronting the energy sector is that climate change policy in Australia is a shambles. At least 14 years ago, our political leaders were told that there was an urgent need to address the crisis in business confidence, in the energy & energy-intensive manufacturing sectors, due to the absence of credible long-term policies to address carbon abatement. It is quite extraordinary, but nevertheless true, that things are very much worse today.”

  • Dr Henry was Secretary of Australia’s Treasury Department from 2001-11, and was appointed a director of the National Australia Bank in November 2011 and chair in December 2015. From June 2011-November 2012, he was special advisor to the prime minister with responsibility for leading the development of the white paper on Australia in the Asian century. He’s a former member of the board of the Reserve Bank of Australia, the Board of Taxation, the Council of Financial Regulators, the Council of Infrastructure Australia and chaired both the Howard government’s tax taskforce in 1997-98 and the Rudd government’s review of the tax system in 2008-09, and he’s governor of the organisation he was addressing above, CEDA.

23 February 2017: NAB chair Ken Henry’s full speech at CEDA
Unconventional economist on MacroBusiness, 24 February 2017: Australia can’t build its way out of population ponzi
Unconventional economist, 24 February 2017: Bigger cities are engines for inequality
Australian Productivity Commission, November 2013: An ageing Australia: Preparing for the future
Committee for Economic Development of Australia

Attribution: NAB, CEDA, MacroBusiness.

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Institute says Wheeler exit opportune for Reserve Bank policy review

Property Institute chief executive Ashley Church called today for Finance Minister Steven Joyce to renegotiate the Government’s target agreements with the Reserve Bank because of bank governor Graeme Wheeler’s convenient retirement 3 days after the election in September.

Mr Wheeler said he wouldn’t seek a second 5-year term. Deputy governor Graeme Spencer, who’s also retiring, will hang in as acting governor for 6 months after Mr Wheeler leaves.

Mr Church has been a strong critic of Reserve Bank policy for 2 years, and said Mr Wheeler’s resignation gave the Government a timely opportunity to review that policy & its effect on the housing market. He said many of the bank’s decisions had damaged the market and had slowed construction of new homes to a rate well short of catching up with demand.

“While the Government, the Auckland Council & the private sector have all been focused on addressing the supply issue in Auckland, the Reserve Bank has been unashamedly at odds with the market in its attempt to artificially cool demand. Sadly, it’s failed, and has only served to make the problems in Auckland even worse.”

Mr Church said he would like to see the Government add a ‘housing market supply’ clause to its contract with the Reserve Bank, which would require the bank to consider the effect its policies would have on overall supply: “If such a policy had been in place 2 years ago, the disastrous LVR (loan:value ratio) restrictions would have been much more carefully considered – and there would be no talk of debt:income limits on lending.”

Mr Church said he would also like to see the Government move to immediately modify existing Reserve Bank policy, particularly the LVR restrictions on first-homebuyers: “The decision to put LVR restrictions on first-homebuyers has been directly responsible for stopping thousands of Kiwis from buying a first home – and the longer they stay in place the worse the situation gets. We don’t have the luxury of waiting till September till those restrictions go – they need to be removed right now.”

Related story: On the move, February 2017, Wheeler sticks to one term at Reserve Bank, Spencer to fill in post-election

Attribution: Institute release.

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Treasury positive about government investment & asset monitoring

A lofty ambition worth aiming for, and an acknowledgment that more, and better, can be done: Prime Minister Bill English wrote, while he was still finance minister, that progress on monitoring the Government’s investments & assets was encouraging, but added: “The job is not done.”

Then, in Treasury’s investment management annual report, out today, he wrote: “More action & innovation is needed to continue to improve in important areas such as benefits & asset management. I expect active stewardship from the [Government] corporate centre, so that the investment system delivers the best value for New Zealanders, not just today but for decades to come.”

Budget & public services deputy secretary Struan Little says in the report the Government is investing in 508 significant projects with a combined whole-of-life cost of $87 billion (up 9 projects & $13 billion from the starting point a year ago): “These investments are being delivered by 53 agencies, across 11 sectors, and 38% of them are being worked on collaboratively. In addition, the Government uses fixed assets worth $93 billion to provide public services and enable social & economic development.”

Immigration warning

One early warning in the report: Immigration will continue to rise. The report says: “Immigration is a critical enabler of New Zealand’s economic growth, and New Zealand has one of the highest per capita inflows of migrants in the OECD. Migrants create jobs and build diverse communities – they bring skills & talents that help make local firms more productive & globally competitive.

“New Zealand competes internationally for skilled migrants, students & visitors. Immigration NZ is a global operation that facilitates travel while managing immigration-related risk.

“Immigration volumes have increased by 51% since 2011-12, and are expected to rise further, which means growing demand for Immigration NZ’s services as visa applications increase.”

The report notes:

  • One in 4 of all workers in New Zealand are migrants; in Auckland the figure is 44%
  • 3 million visitors arrived in New Zealand in the June year 2016, the highest ever annual total
  • International visitors spent more than $10.3 billion in the last financial year
  • More than 105,000 student visas were approved in 2015-16
  • International education is worth $3.1 billion to the economy each year and supports 30,000 jobs
  • Business investor migrants have invested over $4.8 billion since 2009.

Immigration NZ said over 100,000 online applications had already been received on its transformed visa processing service.

The report says 55% of the portfolio by number of projects, and 48% by whole-of-life cost, is being delivered to benefit specific areas – referred to in this report as ‘regional investment’.

40% of regional investment ($16.8 billion by whole-of-life cost) continues to be targeted at the Auckland region, and $12 billion of that is in transport, including the new western ring route, a 48km alternative route around the isthmus to improve network resilience & travel time reliability. Its total expected cost of $2 billion makes it the biggest project ever undertaken by the NZ Transport Agency.

Agencies use a 3-point scale for their performance reports, while the corporate centre & gateway reviews use a 5-point scale to assess projects. Treasury says it’s considering how to better get consistency in assessing project performance.

Data on performance showed the portfolio continued to perform well based on agencies’ self-assessment. 69% of the portfolio was assessed as green, compared to 58% last year.

Treasury investment performance report to November 2016

Earlier stories:
27 July 2016: First ratings out on government agencies’ management
1 December 2015: Major project transparency brings Christchurch consternation

Attribution: Treasury report & release.

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Fed deputy mulls over interest rates & tools for better regulation

US Federal Reserve vice-chairman Stanley Fischer made one of the more valuable contributions to the US & international economic debates a week ago – not answers, but questions with a direction to follow.

His 3 topics were monetary policy, financial stability and the zero lower bound (referred to as the ZLB, where nominal interest rates have fallen as far as they can go – and no, 0% isn’t necessarily the stopping point).

At the centre – and the key point from a New Zealand perspective – is the question: Where to for interest rates? Further into his speech, Dr Fischer examined the potential for negative interest rates, commented that the Fed’s cash-buying policy had reduced the level of the term premium embedded in long-term interest rates, and ventured into the possibility of a cashless society.

A permanently low rate?

Dr Fischer’s first question was whether we are moving toward a permanently lower long-run equilibrium real interest rate; second, what steps can be taken to mitigate the constraints imposed by the ZLB on the short-term interest rate; and third, whether & how central banks should incorporate financial stability considerations in the conduct of monetary policy.

“The equilibrium real interest rate – more conveniently known as r* – is the level of the short-term real rate that is consistent with full utilisation of resources. It is often measured as the hypothetical real rate that would prevail in the long run once all of the shocks affecting the economy die down. In terms of the Federal Reserve’s approach to monetary policy, it is the real interest rate at which the economy would settle at full employment and with inflation at 2% – provided the economy is not at the ZLB.

“Recent interest in estimates of r* has been strengthened by the secular stagnation hypothesis, forcefully put forward by Larry Summers in a number of papers, in which the value of r* plays a central role. Research that was motivated in part by attempts that began some time ago to specify the constant term in standard versions of the Taylor rule has shown a declining trend in estimates of r*. That finding has become more firmly established since the start of the Great Recession and the global financial crisis.

“A variety of models & statistical approaches suggest that the current level of short-run r* may be close to zero. Moreover, the level of short-run r* seems likely to rise only gradually to a longer-run level that is still quite low by historical standards. For example, the median long-run real federal funds rate reported in the Federal Reserve’s summary of economic projections prepared in connection with the December 2015 meeting of the Federal open market committee has been revised down about half a percentage point over the past 3 years to a level of 1-0.5%. A decline in the value of r* seems consistent with the decline in the level of longer-term real rates observed in the US & other countries.

“What determines r*? Fundamentally, the balance of saving & investment demands does so. A very clear systematic exposition of the theory of r* is presented in a 2015 paper from the Council of Economic Advisers. Several trends have been cited as possible factors contributing to a decline in the long-run equilibrium real rate. One a priori likely factor is persistent weakness in aggregate demand. Among the many reasons for that, as Larry Summers has noted, is that the amount of physical capital that the revolutionary IT firms with high stock market valuations have needed is remarkably small. The slowdown of productivity growth, which has been a prominent & deeply concerning feature of the past 4 years, is another factor reducing r*. Others have pointed to demographic trends resulting in there being a larger share of the population in age cohorts with high saving rates. Some have also pointed to high saving rates in many emerging market countries, coupled with a lack of suitable domestic investment opportunities in those countries, as putting downward pressure on rates in advanced economies – the global savings glut hypothesis advanced by Ben Bernanke & others at the Fed about a decade ago.

“Whatever the cause, other things being equal, a lower level of the long-run equilibrium real rate suggests that the frequency & duration of future episodes in which monetary policy is constrained by the ZLB will be higher than in the past. Prior to the crisis, some research suggested that such episodes were likely to be relatively infrequent & generally short lived. The past several years certainly require us to reconsider that basic assumption.

“Moreover, the experience of the past several years in the US & many other countries has taught us that conducting monetary policy effectively at the ZLB is challenging, to say the least. And while unconventional policy tools such as forward guidance & asset purchases have been extremely helpful, there are many uncertainties associated with the use of such tools.

“I would note in passing that one possible concern about our unconventional policies has eased recently, as the Federal Reserve’s normalisation tools proved effective in raising the federal funds rate following our December meeting. Of course, issues may yet arise during normalisation that could call for adjustments to our tools, and we stand ready to do that.

“The answer to the question ‘Will r* remain at today’s low levels permanently?’ is that we do not know. Many of the factors that determine r*, particularly productivity growth, are extremely difficult to forecast. At present, it looks likely that r* will remain low for the policy-relevant future, but there have in the past been both long swings & short-term changes in what can be thought of as equilibrium real rates. Eventually, history will give the answer.

“But it is critical to emphasise that history’s answer will depend also on future policies, monetary & other, notably including fiscal policy.”

What steps can be taken to mitigate the constraints associated with the ZLB?
“Against that backdrop, a second key question for central banks is: ‘What steps, if any, can be taken to mitigate the constraints associated with the ZLB?’

Raising the inflation target: “One step that has been proposed by many is the possibility of raising the target rate of inflation from 2% to some higher level. One concern I have raised in the past about such proposals is that high levels of inflation may also be associated with higher inflation variability. The welfare costs of high & variable inflation could be substantial. For example, more variable inflation would make long-run planning more difficult for households & businesses. And higher & more variable inflation would likely also lead to higher levels of indexation in the economy over time that, in turn, would make it more difficult for central banks to achieve their inflation goals.

Negative interest rates: “Another possible step would be to reduce short-term interest rates below zero if needed to provide additional accommodation. Our colleagues in Europe are busy rewriting economics textbooks on this topic as we speak – and also helping us to remember earlier discussions of negative interest rates by Keynes, Irving Fisher, Hicks & Gesell.

“To provide further monetary accommodation amid weak inflation prospects, the European Central Bank lowered its deposit rate into negative territory in June 2014 and twice cut it further, most recently to -0.3% in December. The Riksbank has lowered its key repurchase agreement, or repo, rate to a similar level, while the central banks of Denmark &d Switzerland have cut their key policy rates more deeply, to -0.75%, in large part to offset considerable appreciation pressures on their currencies.

“In each of these countries, short-term money market rates declined along with policy rates. Moreover, while it is hard to distinguish the effects of the rate cuts from those of concurrent asset purchase expansions, the easing appears to have been transmitted to assets of longer maturity & greater risk. Bond yields & bank lending rates declined and, in the euro area, the volume of lending to corporations & households picked up notably. In addition, the rate cuts into negative territory have acted as expected through the exchange rate channel.

“Negative policy rates have generally not been associated with the problems that likely were anticipated. Adverse effects on money market functioning have been limited. Cash holdings have not risen significantly in these countries, in part because of non-negligible costs of insuring, storing & transporting physical cash. These favourable outcomes may be partly because significant shares of deposits at central banks in these countries are not subject to negative rates. It is unclear how low policy rates can go before cash holdings rise or other problems intensify, but the European experience has certainly shown that zero is not the effective lower bound in those countries.

“Could negative interest rates be a policy response that the Federal Reserve could choose to employ in a future crisis? One possible concern with a strategy of this sort in the US is the potential for destabilising effects in money markets. For example, various observers have noted that negative rates could lead to scenarios in which money funds ‘break the buck’ or simply shut down, either of which could generate strains in money markets. Another concern is whether the complex & interconnected infrastructure supporting securities transactions in the US financial system could readily adapt to a world of negative interest rates. For example, similar to the types of issues addressed ahead of the year 2000, there could well be automated systems that simply are not coded properly at present to process transactions based on instruments with negative rates. All of these are, of course, transitional problems, but they might be sufficient to make a move to negative rates difficult to implement on short notice.

Raising the equilibrium real rate: “An even more ambitious approach to ease the constraints posed by the zero lower bound would be to take steps aimed at raising the equilibrium real rate. For example, expansionary fiscal policy would boost the equilibrium real rate. In particular, the need for more modern infrastructure in many parts of the American economy is hard to miss. And we should not forget that additional effective investment in education also adds to the nation’s capital.

“As another example, numerous studies of the effects of the Federal Reserve’s asset purchases suggest that these operations have reduced the level of the term premium embedded in long-term interest rates. If aggregate demand depends primarily on the level of long-term interest rates, it might be possible, in principle, to maintain a level of long-term rates consistent with full employment & stable prices by lowering term premiums while at the same time raising the level of short-term rates by a compensating amount. This result could be accomplished, for example, if the Treasury took steps to shorten the average maturity of Treasury debt outstanding or, alternatively, if the Federal Reserve maintained large holdings of long-term assets.

Eliminating the ZLB associated with physical currency: “While the European experience suggests that interest rates can be pushed somewhat below zero, the existence of physical currency likely still limits how deeply interest rates can be pushed into negative territory. That observation has led some to ask whether it would it be possible for the financial system to operate effectively without physical currency provided by the central bank. This is a theoretical question that has fascinated economists for decades and, with advances in technology, could possibly have practical implications as well. Indeed, the Scandinavian countries have embraced the development of new payments technologies that seem to be reducing the need for physical currency for transactions in those countries. Nonetheless, a transition to a cashless economy in the US seems very far off; indeed, US currency outstanding has been increasing relative to nominal gross domestic product over recent decades, driven importantly by foreign demands for US bank notes. “Moreover, to eliminate the ZLB associated with physical currency by going cashless, countries would need to transition to an economy that did not require widespread use of physical currency, and central banks in those countries would need to cease issuing physical currency on demand (for example, in response to demands spurred by negative rates on so-called inside money). For all of these reasons, as a practical matter at least for the US, it seems highly unlikely that the constraints associated with the ZLB could be meaningfully addressed by steps to encourage a transition to a cashless economy.

“None of these options for dealing with the difficulties of the ZLB suggest that it will be easy either to raise the equilibrium real rate or to mitigate the constraints associated with the ZLB. But when the real rate is close to zero, even small effects can make a noticeable difference. And, of course, such issues are clearly worthy of additional research.

How should central banks incorporate financial stability considerations in the conduct of monetary policy?

“The challenges associated with the ZLB and the potential risks resulting from an environment of extremely low rates for a prolonged period of time bring me to the third question: How should central banks incorporate financial stability considerations in the conduct of monetary policy? Or, put another way, can we conduct monetary policy in a way that reduces the likelihood of financial instability?

“The first response of policymakers to the question of whether monetary policy – defined as the short-term policy interest rate – should be used to support financial stability is to say that macro-prudential tools, rather than adjustments in short-term interest rates, should be the first line of defence.

“Macro-prudential tools are primarily regulatory or supervisory in nature and target specific activities, markets & financial institutions. In the US, we now have some experience with such tools. The interagency guidance on leveraged lending issued in 2013 and the annual co-ordinated stress tests (the Dodd-Frank Act stress test, or DFAST, mandated by the Dodd-Frank Wall Street Reform & Consumer Protection Act of 2010; and the comprehensive capital analysis & review, or CCAR), focused on the capital adequacy of the largest banking firms, are 2 examples implemented for a few years now and for which data are available for an assessment of their effectiveness.

“An important new element of the post-crisis capital regime is the counter-cyclical capital buffer (CCyB), which the Federal Reserve put out for comment on 21 December 2015. The CCyB is designed to be activated when there is an elevated risk of above-normal losses in the future and released when the risk of above-normal losses recedes. The higher levels of capital would increase the resilience of the largest banks because they would be better positioned to absorb the losses.

“Despite the tools that the Fed can use to support financial stability, including the Fed’s authority to impose margin requirements on secured financing transactions, the Fed has fewer macro-prudential tools at its command than some other central banks, particularly with respect to real estate. Regulators in many countries facing or anticipating problems with rising real estate prices often turn to controls over loan:value or debt:income ratios. Such measures are potentially important, as the real estate sector is the most common source of the beginnings of financial instability. In the US, responding to such problems with these tools would require inter-agency co-ordination, which could make their use cumbersome at critical moments.

“It is important to acknowledge that there remain cases in which macro-prudential tools are either not available or have not been sufficiently tested in the US, or they may be in conflict with other objectives such as widespread access to credit. The effective lack of such tools has 2 important consequences. First, it requires placing greater weight on the ability of financial institutions and the financial system as a whole to withstand financial shocks without the authorities having to use macro-prudential instruments – that is to say, on structural reforms to the financial system. Second, in such instances, one could consider using monetary policy – the short-term policy interest rate – to lean against the wind of financial stability risks.

“The use of monetary policy to address financial stability concerns raises 2 distinct but closely related sets of questions. The first is whether adjustments in the policy rate can indeed enhance financial stability by reducing either the odds of a financial crisis or the severity of such a crisis once it is under way – and, if so, through which channels.

“Provided that the first question is answered in the affirmative, the second question is how leaning against the wind interacts with the traditional objectives of monetary policy – namely, the employment & inflation mandates in the US. This trade-off could be small or even nonexistent when both traditional macro objectives & financial stability objectives call for the same policy action – for example, when the credit cycle is approaching its peak, output is above potential and inflation pressures appear to be building. In contrast, when different objectives call for different policy actions – for example, when some financial assets appear overvalued but economic growth remains tepid and inflation is subdued – policymakers may find this trade-off much more difficult to assess and will search for macro-prudential tools. Perhaps unsurprisingly, recent contributions in the literature that quantify this trade-off point to a range of recommendations, with some reporting an optimal monetary policy that leans against the wind and some suggesting otherwise.

“I would like to conclude on this issue by saying that the issue is a bit more complicated than suggested so far – for, given that financial variables are a critical part of the transmission mechanism of monetary policy, when policymakers say the economy is overheating, they may well be considering the behaviour of asset prices as a critical part of that phenomenon and part of the reason to tighten monetary policy. Thus, I believe that the real issue of whether adjustments in interest rates should be used to deal with problems of potential financial instability is macro-economic, and that if asset prices across the economy – that is, taking all financial markets into account – are thought to be excessively high, raising the interest rate may be the appropriate step. Further discussion of this issue will probably bear considerable similarity to the analysis of how to deal with asset bubbles that took place in the US in the decade starting about 2 decades ago.


“In closing, let me concede that it is easier to pose these questions than it is to answer them definitively. The issues are both deep & interesting. Along with other monetary policy issues, particularly the role of the lender of last resort in a world of significant uncertainty, they deserve the attention the profession in both academic & governmental institutions is, will be and should be giving them.”

Dr Fischer was addressing the American Economic Association in San Francisco on 3 January. His first degree was a BSc in economics from the London School of Economics in 1965. Now 72, he’s had an impressive & wide-ranging career, including 8 years as governor of the Bank of Israel before his Fed appointment in 2014, several senior roles at Citigroup, 7 years at the International Monetary Fund, and professorships & fellowships at the University of Chicago & Massachusetts Institute of Technology.

Link: Full address

Attribution: Fed speechnotes.

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