David Farrar: Monetary policy needs mates

The NZ Initiative has a research note out on how fiscal policy needs to work with monetary policy. They comment:

This analysis does not dispute that the RBNZ’s high interest rates were the proximate cause of the downturn. However, it argues the Bank had little choice. It was confronted with the insidious threat of inflation expectations breaking free from their anchor, a development that would risk a return to the deficit-spending stagflation of the 1970s and early 1980s. After all, following December 2023 changes, the Monetary Policy Committee’s single operational objective is price stability – 1-3 percent, with a focus on the 2 percent midpoint.

More critically, this note contends that the government’s own fiscal choices – particularly its decision to implement tax cuts without more than offsetting spending reductions while the RBNZ was still fighting inflation – created a policy misalignment. The fiscal policy stance remained stimulatory, begging the question of the political will to sustain a tighter monetary policy. It is a story of two ships passing in the night: monetary policy to raise interest rates to cool an overheated economy while fiscal policy was still pouring fuel on the fire by heavy borrowing.

I think the tax cuts were the right thing to do – both economically and politically. Families needed tax relief. But I agree with the Initiative that they should have been offset with greater spending reductions.

The left lie and claim this is an austerity government. It is simply and completely wrong. The Government is spending more than Grant Robertson was promising to spend in his last budget.

Cutting spending is politically difficult with such a hostile media. The very modest reduction in public service staff levels was greeted with 100s of negative stories. The misinformation was so great that most of the public think the government cut 15,000 jobs rather than around 1,500.

But by failing to do greater spending cuts in late 2023, early 2024, this has contributed to interest rates not falling as quickly as they might have otherwise.

David Farrar runs Curia Market Research, a specialist opinion polling and research agency, and the popular Kiwiblog where this article was sourced. He previously worked in the Parliament for eight years, serving two National Party Prime Ministers and three Opposition Leaders