The Money Illusion has popularised the idea of market monetarism, leading to strong claims overseas that there needs to be more monetary easing. This is all well and good, and in fact I long agreed with many of the policy recommendations that have been stated (although I am not a complete proponent). But if we were to look at the nominal GDP numbers for New Zealand (NGDP) what would it tell us?
Let’s start by going on to the amazing Infoshare site that Statistics New Zealand provides for us. From there we can go to economic indicators, choose the national accounts, and choose per capita seasonally adjusted, quarterly measures. In there, grab expenditure GDP, pick current prices, and take all the data – June 1987 till September 2011. Now we currently have no theory, and no priors, so lets just draw an exponential trend through this series and see what we get:
Lovely. The trend assumes a constant growth rate of 3.9% in NGDP per capita – and with population growth for this period averaging 1.2% this tells us underlying growth in NGDP per cap was just over 5%, the same target Scott Sumner often suggests. The issue with this trend line is what is suggests in the starting point – that output in June 1987 was 1.5% above potential, does this seem fair? Now unemployment was unnaturally low at this point, sitting at 4.1% above what we believe is our “natural” rate of unemployment at 5%. As a result it may be a fair starting point. [Note: If I start at Mar-94 to try to get past the difficulties of this early period I get growth of 4.1%, and find that we are 0.8% below trend – compared to being 0.2% above in the current example].
Now, with changes in tax policy, government policy, structural policy, Reserve Bank policy, we may want to change around our target or change our period as well – however, we have enough here to state that this is as good a starting point as any, if we want to just sit down and think about a constant, trend, rate of growth in NGDP per capita.
Given this, what is the deviation we have experienced from this “trend” through time:
Interesting. Now in order to interpret this graph we have to start asking ourselves some questions:
- What happened in the 2002-2008 period – was that the RBNZ letting NGDP run “too hot”, or was there an increase in the targeted trend rate of NGDP growth (note there was a change to the Reserve Bank Act, and we experienced an increase in our terms of trade – and lets not forget what the housing market/investment got up to).
- Was it the level of NGDP per cap that we should have been targeting, or a growth rate – if it is the former, then the sudden drop can be justified, or it is the later the sudden drop to the trend is still a violation of the target.
- If we were targeting the level, and we want to say that the RBNZ let NGDP run too hot – is there any way to say what they did during the crisis was wrong.
The thing for me is that, if we answer yes to question one, and then take level targeting in question two, we have to admit that the Bank did a good job during the crisis – if we want to use this framework to criticise the Bank, we can only do it by stating that they allowed monetary conditions to be too easy during 2002-2008 … we can’t turn around and say that they didn’t do enough during the crisis.
Yes, we would need to say that when the official cash rate was among the highest cash rates in the developed world it was too low (or at least the path of rates was inappropriate). Now a good consistent economist may say that this is what they think now ex post, but I can tell you that no economists were saying that ex-ante. Just look at this paper from NZAE in 2010, page 10, figure 15. The Bank was far more hawkish than other economists, hence why they were forecasting higher rates for longer consistently.
The lesson for me from this? We didn’t understand the build up to this crisis, and if it hasn’t already the RBNZ should be spending a lot of time trying to understand in what way policy failed during the 2002-2008 period. However, once the crisis struck they identified the issues well and dealt with them, and New Zealand has survived the most incredibly ugly series of shocks (secondary financial market failure, drought, oil price shock, wealth shock, global financial crisis, earthquakes, and the European debt crisis) in relatively good shape.