No need to fear RBNZ’s new PTA

Finance Minister Grant Robertson and incoming Reserve Bank Governor Adrian Orr today signed a new Policy Targets Agreement (PTA), which adds employment outcomes to the Reserve Bank’s price stability targets.

Under the new PTA, the Reserve Bank still has to keep future annual CPI inflation between 1 and 3 percent over the medium-term, with a focus on keeping it round the 2 percent mid-point.

But the new PTA also requires monetary policy to be conducted so that it contributes to supporting maximum levels of sustainable employment within the economy.

Massey University banking expert David Tripe says the inclusion of employment outcomes in the Reserve Bank’s work may not cause the bank to behave much differently to the way it has been.

Thirty years ago when changes were made to the way monetary policy was set it had negative impacts but the environment is different now, he says.

“Currently, inflation is at a moderate level and employment is also at a reasonable level.  The key to maintaining that is trying to avoid economic volatility and disruption.”

While trying to have multiple outcomes could end up with none being achieved well, in Tripe’s view the PTA appears to maintain inflation as its priority objective. 

“It’s arguable that providing an environment of stable inflation is the best way to provide stable employment outcomes for people anyway.

“But taking care with how a policy is implemented can have an impact on the extent of the disruption on the economy and that is what is important for employment.”

Westpac chief economist Dominick Stephens thinks the new PTA will be a relief for markets that were worried the Reserve Bank might go soft on inflation or lose sight of inflation targeting.

The Reserve Bank’s shift to a dual mandate targeting both inflation and the labour market has been well signalled, but the devil was always going to be in the detail, he says.

“In the event, the details released today were very much in line with expectations – the Reserve Bank is not about to radically change its behaviour.

“Instead, this looks more like a formalisation of the Reserve Bank’s existing flexible inflation targeting approach, along with a few incremental changes.

“We would regard this as a slightly ‘hawkish’ development for markets, in the direction of lower long-term interest rates, higher short-term interest rates, and a flatter yield curve than the alternative.”

But Stephens adds that today’s PTA was only a “bridge in the direction” of giving the Reserve Bank a dual mandate of both employment and inflation.

“There is still a possibility of further change when the new Reserve Bank Act is brought in, although there was no hint that any further change would alter the flavour of what has been released today.”

The PTA’s new focus on employment outcomes is an outcome of Phase 1 of the Review of the Reserve Bank Act 1989, which the government announced in November last year.

Robertson says work on legislation to codify a dual mandate for the Reserve Bank, as seen in countries like the US, Australia and Norway, is underway.

“In the meantime, the new PTA will ensure the conduct of monetary policy in maintaining price stability will also contribute to employment outcomes.”

The new legislation will also include the creation of a five to seven member committee for monetary policy decisions to broaden authority out from just the Governor.

The committee is expected to begin operation in 2019 following the passage of the legislation, which will include a full Select Committee process.

Orr, who officially starts his five year term as Governor tomorrow, has welcomed both the new PTA and the intended creation of a monetary policy committee decision-making group.

He says the PTA recognises the importance of monetary policy to the wellbeing of all New Zealanders and appropriately retains the Reserve Bank’s focus on a price stability objective. 

“The Reserve Bank’s flexible inflation targeting regime has long included employment and output variability in its deliberations on interest rate decisions.

“What this PTA does is make it an explicit expectation that the Bank accounts for that consideration transparently.

“Maximum sustainable employment is determined by a wide range of economic factors beyond monetary policy.”

Phase 2 of the Reserve Bank Act Review, which will focus on the Bank’s financial stability role and broader governance reform, is being scoped, with further announcements expected in mid-2018.