Bob Ford and Peter Jarrett are both in the Economic Division of the OECD. Both are Canadian by origin, and both have been involved in the OECD Economic Surveys of New Zealand.
Those who were at the Reserve Bank/ Treasury macroeconomic conference in Wellington last year may remember Peter’s clear analysis of the substantial tax bias in New Zealand which favours investment in property over other investments. He showed both how this skews investment away from the productive economy and how inequitable it is that renters subsidise their wealthier landlords.
It is clear that the OECD remains of the view that the absence of a capital gains tax is a substantial reason behind the imbalances in New Zealand’s economy. This must be fixed. There is also support for a land tax (which is not Labour Party policy, but which I note the Chair of the Board of the Reserve Bank, Arthur Grimes, has supported).
Bob had kindly returned from holiday a day early to make the meeting. We had a very stimulating two hour discussion.
Bob Ford emphasised the importance of the control of inflation, and reminded us of the mistakes in the 1970s when, pre-inflation targeting, loose policy aimed at driving down unemployment ended up with both high unemployment and inflation.
The discussion about how to implement inflation targeting while also meeting other objectives was nuanced, much more nuanced than the public discourse in New Zealand.
The need to look through imported price shocks was acknowledged, which is of course a weakness of CPI based inflation targeting. For example, CPI targeting encourages higher interest and exchange rates in response to a decrease in competitiveness from imported oil price rises, at the very time when exporters are less competitive, which of course can be counterproductive.
This is an area I am looking forward to discussing further with Jeffrey Frankel at Harvard, a world renowned expert in the variations or spectrum of monetary policy options, and the trade-offs involved between inflation and exchange rates.
We discussed the weakness of recent settings allowing the huge run-up in private debt and house prices. There is a good argument that house price inflation should be included, but implementation difficulties as to what weighting to give to asset price increases cf the changes in the cost of goods and services.
We discussed the more nuanced approach in other countries.
We were told that Norway is “exquisitely sensitive to exchange rate effects”. This is also what Ambrose Evans-Prtichard was saying when he said the old primacy of inflation targeting was dead.
Bob Ford prefers to see inflation targeting retaining primacy over the longer term, while not being exclusively pursued in the shorter term.
I said that I thought that what they see as being consistent with “inflation targeting” is more nuanced that the popular view of the same term in New Zealand.
He also noted that Canada is also sensitive to exchange rates, though in his view not quite as sensitive as Sweden.
Canada and France are both much more interventionist when it comes to using loan terms to control liquidity flows into housing. Loan to valuation ratios are used in some jurisdictions, but can raise equity concerns for first home buyers.
Canada and France change the principal requirements, requiring table loan repayments over a maximum number of years. I was told Canada has reduced the number of years a loan can be repaid over, effectively increasing the principal repayments in way which decreases the ability to pay higher prices for housing. To me this also has effects akin to compulsory savings, in that there is a requirement to repay loans and increase equity.
These are yet more examples of how overseas regulators are much more nuanced and less reliant on interest rates as the primary tool to control inflation and asset price bubbles.
Given that the higher interest rates we have experienced in New Zealand have driven the carry trade and demand for our currency, we should take these examples seriously. The alternative recently pursued in New Zealand, to alter the capital requirements for different lending classes, has different effects, including increasing the costs of business lending.
Our discussion of the difficulties for non-dominant exporters in smaller countries led to a discussion about the advantages and disadvantages of our currency being pegged to a currency or basket of currencies, and discussed how now we were suffering a rise in the currency relative to the US dollar and Euro unrelated to our exports prices. We discussed the effects of unorthodox practices overseas, an issue which our outgoing Reserve Bank Governor Bollard has recently discussed.
In terms of the effect of our dominant exporter on the currency, Bob Ford recommends New Zealand return to substantial government surpluses of around 2% of GDP, with these to be invested off shore as has been the case with the Cullen fund. He notes the benefit for Chile and Norway of this approach, and thinks government surpluses important given our high levels of private indebtedness.
Of course, in my view better settings for exporters would also aid in the reduction in that private debt.
We left agreeing that the capital gains tax issue is a fundamental setting that needs to be fixed, and were provided with another copy of the April 2011 OECD Economic Survey of New Zealand which made this point.