Postcard from New Zealand: The global business cycle’s frontline state

Plus, Australia Q4 CPI post-mortem; and the RBA review

Jan 27

I have recently returned from the Queenstown region of New Zealand. The trip was recreational rather than for work, so limited insights from the trip itself. However, the tight labour market was very much in evidence, with help wanted signs in virtually every shop window. While paying the bill, a restaurant manager told me they were hiring on the off-chance I was looking for work.

If you think other labour markets are tight, they have nothing on NZ. The unemployment rate was 3.3% in the September quarter, close to the record low of 3.2% seen in the December quarter 2021 and March quarter 2022. The labour force participation rate ripped higher to a new record of 71.7%. The tightness of the labour market is showing up in wage pressures. The Labour Cost Index (LCI) rose by 1.1% in the September quarter, raising the annual rate to 3.7%, the highest since 2008.

The NZ CPI rose 1.4% in the December quarter, with the annual inflation rate coming in at 7.2%, a little below the 32-year high that was reached in June quarter last year. Inflation is running a little below the RBNZ’s forecast and this has seen market participants dial-back expectations for further tightening from the RBNZ, with market participants now looking for a 50 basis point increase in the official cash rate at the next meeting in February, instead of 75 basis points.

The RBNZ was a front-runner of the global tightening cycle, beginning on 6 October 2021, even ahead of the Bank of England. As a small open economy that used QE aggressively during the pandemic, New Zealand is on the frontline of the global business cycle.

New Zealand had a change of Prime Minister while I was there. I won’t litigate her government’s record in office here, except to note a positive, which was a major reform of urban development policy, building on the reforms seen at the local level in Auckland in 2016. The reforms were significant in enjoying tri-partisan support, showing that political coalitions can be formed in support of supply-side liberalisation. Matthew Maltman runs through some of the benefits of the reforms at his blog, which I recommend. New Zealand has an active YIMBY movement.

I would add an additional benefit, which is that New Zealand monetary and macroprudential policy have been significantly distorted by attempts to use these policy instruments to suppress housing demand. Freeing up housing supply will help reduce the temptation to use monetary policy in perverse ways to address perceived financial stability and other risks.

The RBNZ’s remit was further broadened under the Ardern government to include housing affordability, as well as a maximum sustainable employment mandate with a similar conception to that of the Fed’s. The former is obviously more problematic than the latter. This has continued an unfortunate long-term trend to add a broader range objectives to what was once an inflation-only mandate. The remit is currently the subject of a five-yearly review, the public consultation period for which has just ended. Where the review lands will make for an interesting comparison (not to say contrast) with the RBA review. Michael Reddell’s submission highlights some of the issues being considered.

More broadly, the days in which New Zealand served as a model for reform are sadly behind us. New Zealand had a seemingly low productivity pay-off from its previous structural reforms, which has undermined support for further reform, notwithstanding the partial liberalisation of housing supply noted above. My view is that this is partly a penalty due to New Zealand’s distance from markets and lack of scale. If Australia’s labour productivity penalty due to geography is around 40% of the differential with the US, as one estimate would have it, New Zealand’s would be even greater. New Zealand’s high-quality institutions as measured across a broad range of measures, including its economic freedom scores, have left it with something of a productivity puzzle which I don’t think anyone has quite cracked. Of course, some would argue that the 1980s and 1990s reforms themselves are to blame. But New Zealand has come a long way from the massively over-regulated economy I first visited as a kid in the 1970s.

While in Queenstown, I caught up with Callum Thomas of Topdown Charts, a fundamental and sentiment-based charting service for asset allocators that would also be useful for those in equity sales and trading. Callum has branched out into a Substack product more recently. I highly recommend his services.

Australia Q4 CPI post-mortem

The Australian and NZ Q4 CPIs came out on the same day, just as I was leaving NZ, so of course I missed the rally in AUD-NZD due to the higher-than-expected outcome in Australia/more moderate outcome in NZ. The Australian Q4 trimmed mean measure came in at 1.7% q/q and 6.9% y/y, which was higher than the RBA’s November SOMP forecast and our own expectation of 1.5% for the quarter.

The ABS released its monthly CPI indicator for December along with the outcome for Q4, noting that ABS:

‘has identified that the trimmed mean series is not, however, providing a reliable indicator for the principal measure of trimmed mean inflation published in the quarterly CPI publication. The ABS will suspend the publication of the monthly trimmed mean series while we investigate.’

This was the first time we had included the ABS monthly trimmed mean as part of our forecast, which proved to be unfortunate timing in light of these issues. As we noted in our preview, the forecast would have been 1.6% q/q otherwise.

This points to a larger issue with doing a monthly CPI ‘indicator’ rather than a fully-fledged monthly series. I think there is a case for the RBA to just resource the ABS to do this properly off its own balance sheet. The last cost estimate I saw for a complete monthly CPI was an additional $15 million, which would easily pass any cost-benefit test.

The RBA review

The RBA review has been quiet since its half-time report last year, but John Kehoe had a story canvassing some of the options supposedly being considered. According to Kehoe:

‘one option under consideration by the RBA review is a more formal selection process by the treasurer through using a “skills matrix” to get the best mix of candidates with expertise in monetary policy, labour markets and financial markets.’

That would be an improvement on the current approach of ticking representative boxes, as suggested by this email exchange between the Governor and the former Treasury Secretary released under FOI (the section 47F redactions relate to personal information):

As someone born on a Queensland dairy farm, imagine my disappointment not to get a call in 2018.

This proposal misses a more fundamental requirement for someone to serve as a monetary policy decision-maker. In my view, a necessary qualification is that a prospective appointee understand that aggregate demand is fully determined by the central bank and is committed to using the Bank’s full range of policy tools to stabilise it under any conditions. An implication of that perspective is that the policymaker accepts their responsibility for the determination of the long-run price level and ownership of inflation outcomes. If it were up to me, a statement to this effect would be written into the Statement on the Conduct of Monetary Policy and prospective appointees would need to explicitly sign-up to that statement. If they disagree with those propositions, they have no business being a monetary policy decision-maker. I suspect even some economists would fail this simple test. Even the best skill set is not much help if you fundamentally misunderstand why you are even there.

Bloomberg ran a survey of economists asking whether Governor Lowe should be appointed to a second term when his current term expires in September this year. Not surprisingly (for Australia), ‘most economists opted to remain anonymous because of the political sensitivity of the issue.’ But this is not really a ‘political’ issue in a partisan sense. The issue is that economists and their employers fear that such comment might get them into trouble. Those fears are probably exaggerated, but no less real for that. It is one of the reasons the RBA avoided effective scrutiny for so long.

An important role for the RBA review is to de-personalise the issue by highlighting the role of governance, accountability and transparency arrangements in shaping incentives. Get those things right and personnel issues become second-order. The simple screening test proposed above would have avoided many of the monetary policy errors seen during the leaning against the wind episode between 2016 and 2019, when the RBA attributed low inflation outcomes to exogenous factors beyond its control. In any event, the review has clearly zeroed-in on Australian monetary policy’s single biggest weakness.

ICYMI

Meet the Latest Housing-Crisis Scapegoat: ‘Blaming the housing crisis on hedge funds and private equity may be easy, but it’s dead wrong.’
Nothing sums up British decay quite like the period property premium: ‘This ground-breaking legislation would make it illegal for any Minister or Secretary of State to own or rent a residential property which could not be built under current building regulations.’
Memes and themes: