As I said, I will discuss the RBNZ speech from yesterday.
Personally, I thought the speech was spot on – Dr Bollard understands the issues associated with inflation targeting, but he also more than understands the benefits.
Look at this statement surrounding oil prices shocks:
Instead, the key policy requirement in this situation is to allow the initial externally driven relative price changes to occur, but keep monetary policy sufficiently firm to ensure that generalised second-round inflation effects do not take hold – in other words, to keep inflation expectations anchored.
This is all I wanted the Bank to say in their latest statement – that they would react to the second round of price increases stemming from an increase in oil prices if it occurs. Tell the market that, although the CPI figure looks bad, once we’ve cleared the recent shocks inflation will again be the primary concern.
Furthermore, the Bank damned alternatives to inflation targeting – specifically:
Another alternative that could appear superficially attractive is to require monetary policy to target multiple objectives such as growth, employment, export and the balance of payments. This was the approach taken in New Zealand and many other countries in the post-war period up to the early 1980s. It inevitably had a short-term focus, and resulted in stop-go policies and high inflation. We now know that one instrument cannot succeed in achieving multiple objectives over the cycle. The move to inflation targeting, with its single, clear objective, resulted from the lessons learned in that period. We do not want to re-learn those lessons.
Very good 🙂
With this speech the Bank has emphasised attacking inflation in the terms that we have discussed together here – remember that the real advantages of inflation targeting are the ability to react to short-term shocks to activity because inflation expectations are anchored, and the ability to keep inflation down at the lowest possible cost. The main question then is, are inflation expectations anchored? In this speech the Bank said – if they are not anchored, we will start tightening again
On this blog the comments seemed to imply that the speech inferred that Dr Bollard was soft on inflation. I would like to see exactly where it appears he is being soft – as far as I can tell the speech was simply discussing the standard view of what inflation targeting is, and why it is better than any other method.
Sure he was discussing why cutting now made sense – but he did so with respect to inflation expectations, and he made a credible commitment to chase these expectations. Deep down that is all I want, what sort of silver bullet do other analysts think the RBNZ has up their sleeve?
Also supposedly the dollar dropped 40 basis points against the US (I didn’t see it happen). Was this because of the market mis-interpreting the speech, or was it because of the US dollar strengthening on the back of this.
Out of all the comments on the Rates Blog there is only one I find myself agreeing with, it was this from Andrew Ngaio:
It needs to ensure banks are lending prudently and it can see that from monitoring their marketed products and ensuring that worst case practices are prevented so that good solid practices are followed
But I would also try to remember that the RBNZ is constantly trying to improve procedures, and trying to walk that fine line between sufficient regulation and too much regulation in the money market. I do not blame the RBNZ for what has happened in financial markets – however, we have to remember that issues stemming from asymmetric information are the true cause of many of the problems some people attribute to inflation targeting!
I liked the speech, I liked it very much! I wish that the RBNZ used the same lingo about inflation expectations and second-round price effects in their market statements as they did in this speech – as that would help to anchor inflation expectations.
Update: A very good piece analysing the speech at the Rates Blog.