Is Bill English drifting out of date? Is Graeme Wheeler? Do the 1980s just not work in the 2010s? Ask around.
Wheeler will pronounce again on Thursday on the official (interest) cash rate (OCR). His problem: prices are rising too slowly.
Inflation targeting was brought into monetary policy to stop prices rising too fast. Now the global worry in the monkish chambers of central bankers and economic oracles is that prices are not rising fast enough.
Wheeler is required in his targets agreement with English to keep the consumers price index (CPI) rising 1% to 3% a year. He aims for 2%. The annual CPI rise has now been below 1% for five quarters.
Wheeler gave himself elbow room last month by saying he is not taking a “mechanistic” approach: he will not cut the OCR just because the CPI rises less than 1%. First, he has some flexibility to exclude the likes of the oil price plunge. Second, “core” inflation, which excludes such shocks, is a better guide. It is close to 2% (as in the OECD as a whole).
But Wheeler also said he didn’t want business-world inflation expectations to fall significantly because that could be self-fulfilling and cut core inflation. Those expectations have been falling and “the market” (banks and other financial institutions, influenced by their economists) have priced in a soon-ish OCR cut, which adds downward pressure.
So even if he doesn’t cut on Thursday, Wheeler is expected to keep an “easing bias”.
This is despite still firm GDP growth, even with dairy in trouble: an immigration flood, employment and wages growth, unemployment at 5.4%, soaring tourism and strong construction even since the Christchurch rebuild peaked.
Moreover, high mortgage lending and firm retail spending attest to strong credit growth. That is, Wheeler’s record low OCR is pumping a balloon. That is what central banks in other rich countries have been doing — and are supposed not to do.
If the global economy tanks, Wheeler, like other central bankers, will have little remedial scope left.
But is he imprisoned in old thinking? Is English?
A McKinsey Institute analysis last week concluded that global digital data flows — people and businesses selling, buying, learning, being entertained and much else on the internet — are still rising while international goods trade and finance have flattened since 2008.
“Over a decade” (up to 2014) “global flows have raised world GDP by at least 10%,” the report says. “Data flows now account for a larger share of this impact than global trade in goods. Global flows generate economic growth by raising productivity and countries benefit from both inflows and outflows.”
Digital transactions cut out middle-operators like importers, wholesalers and retailers and so cut end-prices. Prices of electronics and appliances and much else have fallen as technology has cut production costs. Likewise in a growing range of services: think taxis and places to stay.
People aren’t going to buy less just because prices are down. They may well buy more.
Yet most economists and central bankers “fear deflation even more than they fear inflation”, Zachary Karabell notes bemusedly in the latest United States Foreign Affairs magazine.
Their spectre is the early 1930s rich-world downward spiral and stagnant post-1990 Japan. The theory: prices fall, people expect more falls and put off buying, producers cut output and jobs, incomes contract, so in total people buy less, and so on.
Central bankers and politicians see sluggish rich-world GDP (output) growth as evidence. Karabell argues this worry is misplaced.
He says GDP is “ill suited for the modern digital age and ignores some crucial good news: the decrease in the cost of living across much of the world.” Lower costs can lower GDP even as prosperity rises. “Many of the most important developments in the modern economy contribute little to official GDP figures” but improve wellbeing.
A future in which economic growth, as measured by GDP, remains low “would not be nearly as bad as most people assume, provided that the cost of living also continues to fall”.
Leading New Zealand bank economist Stephen Toplis agrees: “There has been a massive production shock” (due to technology) “which no one has been able to measure.”
And focussing on a simple total GDP figure misses the point for Japan: falling population means each person can have more even if the total stalls or falls. Karabell says Japan ranks near the top of measures of individual and collective wellbeing.
So why do English and Wheeler still revere GDP and obsess about getting prices up? What would another OCR cut from Wheeler’s already “very accommodative” level do that previous cuts haven’t?
Well, the targets agreement will be redone next year. And the Treasury and English are, English says, “taking notice of” the global intellectual debate, though don’t feel there is yet a concrete intellectual basis for fundamental change.
Stay tuned. Meantime, admire Wheeler’s contortions.