Agreement or no?

David Cunliffe has stated that new prudential regulation by the Reserve Bank shows that they agree with Labour on the need to dump the monetary policy consensus.

I would say no.

Monetary policy and prudential policy need to be treated separately.  In the same way that fiscal policy and monetary policy are.  Monetary policy (achieved through interest rates) should stick to the consensus view of keeping inflation expectations anchored.

Prudential policy is meant to ensure that we have bank stability.  In this sense there may be some quantifiable social cost associated with systematic risk in the banking system, and that policy looks to internalize that risk.  Now, there may be a role for this – or I’ll go out on a limb here and say that there may not be.  However, this IS NOT an issue of monetary policy in the narrow sense.

Does prudential policy indirectly influence interest rates and the money supply – yes.  So does fiscal policy.  So does consumer confidence.  So does risk preference in society.  However, it is not monetary policy and it is not part of the reason for the Reserve Bank Act that Labour seems interested in tinkering with and adding “other goals too”.

I am not against Labour thinking about prudential regulation and other issues of policy.  I am against them trying to use actual monetary policy to achieve multiple goals, and I am against trying to use monetary policy to achieve any goal other than a stable and low inflation rate.  These issues NEED to be separated when discussing policy, or else we risk destroying a fully functional Reserve Bank Act.

  • Hear Hear!

    Totally agree Matt.

  • Miguel Sanchez

    If Cunliffe and co thought about the prudential liquidity policy for more than a second, they might realise that it achieves a monetary policy goal by PUSHING UP INTEREST RATES. Which was, apparently, the great evil in the first place.

  • I’m not going to pretend to understand how this whole system works.

    I just hope we don’t have another meltdown again.

    This must be the only industry where you get rewarded for messing up.

  • I don’t really understand how the whole system works either. It seems like nobody really knows the right way to fix the system. In the meantime, things are getting pulled one way or another in attempt to fix it all. As a result past legislation can easily get overwritten, even if it is not really in everyone’s best interests.