Reserve Bank governor Alan Bollard today urged keeping the New Zealand currency, saying it allows New Zealand authorities to respond to local economic conditions more flexibly than a joint currency ever would.
The comments came at the Reserve Bank governor’s traditional scene-setting speech or the year to Canterbury Employers’ Chamber of Commerce in Christchurch.
“The New Zealand dollar has fallen by over 10% against the Australian dollar since 2006, a period in which Australia experienced an unprecedented minerals boom and very strong growth.
“If our currency had been pegged to the Australian dollar, New Zealand’s exchange rate to the rest of the world would have been higher, interest rates would have risen three times already, and our recession would probably have been deeper.”
The negative impact on the New Zealand economy would have been even greater if New Zealand was pegged to the US dollar, he said.
“Australia and New Zealand are not the same but we are far more similar to each other than to Europe or the US. If our currency had been pegged to the US dollar over the past decade, interest rates would have been lower for longer in 2003 and 2004, exacerbating the housing boom.
“Some of the challenges of a currency union can now be seen in Euro area economies such as Ireland, Greece and Spain, where monetary policy settings have been unable to lean against unsustainable domestic booms, or against the deep recessions that followed.”
Reviewing the recession of 2008-09 and the economic crisis which came half way through that recession, Dr Bollard said New Zealand had emerged comparatively well and our monetary policy regime had allowed the country to adjust relatively smoothly.
However, one significant change in response to the crisis is the new prudential liquidity regime, which will be phased in from June this year.
This requires local banks to source much less of their funds from short-term offshore sources. Up to 40% of New Zealand mortgages were funded this way at the height of the boom and this had two drawbacks – firstly ti meant the Reserve Bank’s raising of the official cash rate had limited impact, at least initially, and an asset bubble was able to develop.
Secondly when Lehman Brothers collapsed in October 2008, the resulting freeze on global funds left New Zealand banks extraordinarily vulnerable.
It is to deal with the second aspect of these that the prudential regime is being implemented – the aim is to make New Zealand’s financial system more stable and less vulnerable to such offshore shocks, because it will mean banks will have to source more of their funds both from within New Zealand and on a longer term basis.
However, it will have an impact on monetary policy and on constraining such housing bubbles as developed between 2003 and 2007.
Just what that impact might be though is not clear, Dr Bollard said.
It will depend “on the link between those instruments and bank funding and lending, and also between bank lending and the behaviour of housing and other asset prices.
“In the case of housing, the link between mortgage lending and market prices is fairly clear. What is less clear is the extent to which the instruments themselves may constrain bank lending and housing demand in an emerging boom.”
What it might do is act as an “automatic stabiliser” and reduce the required hikes in the OCR during economic upturns, he said.
“At best, these instruments could supplement the role of the OCR, but will not fundamentally alter it.”
Fri, 29 Jan 2010