OCR stays at 8.25%

The RBNZ left the OCR at 8.25%, a move that was completely expected.

They also released a monetary policy statement this month, which is what the markets were keeping an eye out for. The executive summary was pretty neutral, mentioning both global credit market uncertainty and the need to keep rates high to combat inflation. As a result, this gave little information to the market on whether the Bank was thinking about easing in March, June or September.

However, I think that the current MPS points towards loosening in the OCR late in 2008. For one, there forecast 90 day bill rate track remains high, only easing slightly into 2009. Furthermore, they forecast economic growth to March 2008 of 2.9%, significantly above other analysts forecasts. Also, they expect inflation expectations to stay near the top of the target band up until at least 2009 (falling to a low of 2.7%!).

I’m not sure how to interpret this. Does this mean that the Bank is prepared to tighten again as they are pricing in strong inflationary pressures? Or does it mean that the Bank is estimating a high track for GDP growth, so that when growth comes in lower (as it invariably will, given the lack of TOT movement in June), the Bank has a consistent reason to cut rates.

Car safety choices

I’ve just read a great post about vehicle size and the probability of getting killed, go The Economist.  It says that, although you are less likely to die if you are in an accident and you are in an SUV, you are more likely to be in an accident if you are in an SUV, and therefore we can’t just say that having a bigger car will make us safer.  Now the reason I think SUV’s get into more accidents is that people feel safer in SUV’s and so drive more aggressively, especially after speaking with an insurance adjuster.

Let us now completely ignore this point and look at a slightly different issue.  Say you were certain that at some point you were going to be in an accident.  In this case, all other things equal, you want to choose a car that gives you a greater probability of living.  As a result, you choose an SUV.  Furthermore, if everyone in society felt the same sort of way, they would buy SUV’s as well.

However, your probability of living also depends on the type of car the person you crash into is driving.  If you have an SUV and they have a Honda Civic, you will destroy them, your probability of living will be high and they will be in trouble.  If they also have an SUV, then you are both likely to get munched as you both have big cars.  Now what happens in the hypothetical case when you and the other person have Honda Civics?  You will be worse off than if you were in an SUV, but you will be better off than if they were in an SUV.  The interesting question is, how does this compare to the case when you are both driving SUV’s?

If the probability of living is higher when you are both driving Honda Civics than in the case when you are both driving SUV’s we have a prisoner’s dilemma.  Both you and the other crash victim would be better off if you were both in Honda Civics than if you were both in SUV’s.  However, incentives convince the individual to buy an SUV.

If the probability of dieing in a Civic vs Civic crash are lower than an SUV vs SUV crash, then we have another reason (beyond the moral hazard aggressive driving reason and the environmental reason) for why the government should regulate the size of vehicles it imports.

Is New Zealand heading for a recession?

Well of course it is, a recession is a typical part of a business cycle and we need one to help our economy achieve some balance.

Now that I have provided my conclusion, let me meat it out a little bit.  By recession I am thinking that NZ is going to have a growth recession (at least two quarters of close to zero growth (seasonally adjusted)).  A number of other economists (namely NZIER and ANZ economists) believe we are going to have a full blown recession.

Many people out in the community are scared of a recession, they think that it means the economy will fall in on itself and that the unemployment rate will fly into double figures.  However, if that was the case we would be predicting a depression not a recession.  Many of the doomsayers out their use the term recession thinking that it implies negative annual economic growth and double digit inflation, however that would be a depression.

The reason for economists confidence is the strong position of NZ’s terms of trade, which implies we can buy more goods than ever (well post mid-70’s anyway) with the bundle of commodities we make in NZ.  The reason we still expect a recession is that our economy is highly unbalanced, with strong asset price (namely house price) growth, high levels of consumer debt (which in turn feeds into a huge balance of payments deficit), hefty pipeline inflationary pressures, and poor productivity growth.

A year or so of poor economic growth will not see unemployment fly upwards (it is extremely likely that it will not cross 5%), but it will help the economy catch its breath.

One important question does appear to be unanswered though, are the current imbalances the result of a long business cycle, or are there structural deficiencies in the New Zealand economy?  This is the question we should be concerned about, not whether New Zealand is going to have a little old recession.

Note:  You might wonder why I did not mention the finance companies in my discussion.  Well they were imbalanced, and now a whole lot of the unstable ones have gone done.  There might be a short term panic by people, but hopefully in the long run this will just make people take account of risk.

Is medicine a money pit?

Robin Hanson suggests on CATO Unbound that much of the health care spending governments do is a waste of money. Citing the RAND study on healthcare he says:

The experiment’s random assignments allowed it to clearly determine causality. Being assigned a low price for medicine caused patients to consume about 30% (or $300) more in per-person annual medical spending… For the five general health measures, [they] could detect no significant positive effect of free care for persons who differed by income … and by initial health status.

Despite this and other studies, governments still devote huge proportions of their budget to health care. Hanson points out that, despite the apparently negligible returns to greater medical care, there are “apparently strong aggregate relations between health and many other factors, such as exercise, diet, sleep, smoking, pollution [and] climate.”

If this evidence is to be believed, leading a healthy lifestyle is far more beneficial to one’s health than free health care. In light of this, is the government’s emphasis on providing low cost health care a good idea? Low cost health care results in far greater consumption of medical services, but does not appear to appreciably increase aggregate health. It seems an expensive strategy for a government to pursue and one that may provide perverse incentives to live unhealthily. If health care is seen as a substitute for a healthy lifestyle then cheaper health care may lead to people living less healthily than they otherwise would if they had to pay for their own health care. The moral hazard problem engendered by these incentives could further raise the costs to the government of health care, yet without appreciably improving health care outcomes. Does this mean that a new approach to health care funding, focussed on encouraging healthy living, is required?

The sad reality of public life

I have often wondered why there is such a strong reaction to news of politicians’ mistakes. Just recently, Damien O’Connor made the error of allowing a suspended employee to play in the Parliamentary rugby team. The only concern here is the possible appearance of improper influence, as the employee is personally known to Mr O’Connor. I could understand the Prime Minister rebuking him for under-estimating the media reaction to his conduct; however, the PM has not gone to any lengths to disabuse the press of the notion that his position as minister is under threat. It seems common for ministers to be demoted when the cloud of potential impropriety hangs over their heads, and for their alleged misconduct to blight their careers for some time.

I have long been baffled by this seeming over-reaction to the ‘misconduct’ of political figures. Then I read this article on peoples’ recollection of accusations and exonerations. Shankar Vedantam writes:

The conventional response to myths and urban legends is to counter bad information with accurate information. But the new psychological studies show that denials and clarifications, for all their intuitive appeal, can paradoxically contribute to the resiliency of popular myths.

So it may in fact be rational to dismiss people from their positions as public figures if damaging allegations are made against them, regardless of the truth of those accusations. The damage done to their reputation could be irreparable since any later finding of innocence will probably be forgotten by a large number of people. Sadly, the spectre of a scandal could be enough to get you relegated from your ministerial chair to a back-room policy position. The cognitive biases of the electorate make it the rational choice for the PM to fire you.

Is nuclear power generation the way for New Zealand?

Over the weekend, Australian Prime Minister John Howard said that countries who supported reducing GHG emissions must support nuclear energy. Of course the one does not presuppose the other (non-sequitur), and New Zealand politicians came back saying that it was not for New Zealand. In reaction, I note a number of ‘straw-polls’ on websites such as Stuff and NZHerald, where more than half of self-selecting participants said that they wanted nuclear power in New Zealand.

I am not against nuclear power in New Zealand if a robust economic case can be supported for its use, relative to other generation sources. This case would, of course, have to internalise the probability of a nuclear disaster multiplied by the expected costs of such a disaster, and also the real difficulties of disposing of nuclear waste. On 26 April 1986 in Chernobyl there was a nuclear power plant explosion, that is one thing that I worry would happen here. But is Chernobyl safe now? From research I read that they got rid of the topsoil and put new soil down, except they were not able to do that around the trees. So if you stay on the paths it has very little radiation. On the other hand, the emissions of alternatives (such as coal thermal generation) would need to be internalised as a negative for them in comparison to nuclear.

I support analysis that works to such a framework as being a crude but generally good way to rank alternative generation sources, taking into account all of the many pros and cons of each. Unfortunately, most New Zealanders seem to think that because the only raw materials used in generating power from nuclear is a plant and a bit of Uranium, it must be cheap in comparison to a wind farm or photovoltaic (solar) generation, let alone coal or other thermal generation sources – which in New Zealand just is not true. This was best exemplified by a column by Michael Laws in yesterdays Sunday Star Times. Besides describing George W Bush as a very smart man, it suggested that nuclear was more cost effective than wind power and geothermal power (among others), and that an oil price of $2million a barrel was needed to justify the costs of marine energy (plain wrong) and that solar is not an opportunity for future generation (actually, solar is currently non-viable, but not anywhere near as what Mr Laws suggests. In 10-15 years it will probably be a goer).

Let us get some perspective here. With current nuclear technology, the cost of nuclear generation is around twice the current cost of generation in NZ. Wind is actually much more efficient than nuclear, does not emit, generate nuclear waste, or risk catastrophe. There is some visual impairment. But the cost of this is much less than that of storing nuclear waste, or the risks of nuclear disaster. Indeed, marine would at the very least appear to be roughly as economic as nuclear for NZ (and in terms of scale is much more economic), without counting the risk of catastrophe and the costs and risks of nuclear waste disposal.

I am not against nuclear power for NZ per se, but the debate needs to be grounded in economic facts. New generation nuclear technology, probably emerging in 10-15 years may be more suitable for New Zealand than current technology. We should keep an open mind when this comes, but also not just jump on it as an easy fix and a solution to all of our problems – there are a lot of things to think about and internalise when comparing different generation options, and this should be done with care. Knee jerk opinions such as Mr Laws’, based on nothing but perception, do not represent good economic analysis.