COMMENT: One of the major monetary policy innovations of the last 30-plus years has been the use of the Official Cash Rate (OCR) as a tool to combat inflation. The OCR is the wholesale rate at which trading banks can borrow money from the Reserve Bank and is also used as a way of influencing interest rates (including mortgage interest rates). The Reserve Bank does this by increasing the OCR when inflation is running at a higher level than it is comfortable with – as it is right now – and lowering the OCR when the economy is sluggish, thus sending a signal to the banks that it wants interest rates to increase or decrease.
But why would the Reserve Bank want interest rates to go up, right now? Because when interest rates go up, they divert spending away from inflationary goods and services and force us to use more of our available income to service debt. This may sound crude – but it works, and it has kept inflation under control, around the world, since the 90s.
But the policy isn’t perfect. One of the major downsides of using the OCR to control inflation is that private spending that might have benefitted the economy gets absorbed in higher interest payments. This situation isn’t made any easier to swallow by the fact that, despite making over $6 billion in profit in 2021, New Zealand banks appear to have raised their mortgage rates more quickly than the increases in the OCR would seem to justify in 2022.
To be fair, the Reserve Bank isn’t the only (or even the major) source of funds for the banks; they’ve been paying more for longer term funds than the OCR would suggest. It’s also worth noting that the banks have recently started dropping their carded fixed rates for mortgages, even at a time when the Reserve Bank is indicating that further increases in the OCR are likely – so the situation is still very fluid, and the banks aren’t necessarily the bad guys.
Start your property search
But is there another way to achieve the same thing? A way in which household spending could be reduced so as to get inflation under control - without that spending coming at such a huge cost to Kiwi households?
As it happens, there is, and the idea came from the most unlikely of sources – the current Associate Minister of Finance, David Parker, when he was still in opposition back in 2014
Parker’s idea, which was euphemistically labelled the KiwiSaver Variable Savings Plan, was to use KiwiSaver as a way to control discretionary spending, in place of the OCR. The proposal was simple – instead of using the OCR to influence interest rates, the Reserve Bank would be able to direct the minimum amount that Kiwis were required to pay into KiwiSaver at any given point in time – more when inflation was high, less when inflation was low.
Ashley Church: “One of the major downsides of using the OCR to control inflation is that private spending that might have benefitted the economy gets absorbed in higher interest payments.” Photo / Ted Baghurst
The potential benefits were huge. Rather than the additional interest on a mortgage disappearing into the pockets of faceless corporates, KiwiSaver contributions would still belong to the saver which means that they would be available at retirement or become part of your estate in the event of an untimely death. It would also have dramatically increased the funds under investment in KiwiSaver, over time, strengthening the countries financial position, potentially reducing our reliance on foreign debt, and increasing Kiwi investment in, and ownership over, New Zealand businesses and infrastructure.
The initiative would also have taken pressure off the value of the dollar which is a good thing because higher interest rates make the Kiwi dollar more attractive and the higher the value of our dollar the harder it is to sell our goods offshore.
The idea wasn’t without its pitfalls, of course. It would have required KiwiSaver to be compulsory for all Kiwis, including the self-employed; and there would also have needed to be a way to make the whole scheme highly responsive to sudden changes in economic conditions (although both could probably have been easily resolved simply by making having a KiwiSaver account a prerequisite of taking out a mortgage).
Sadly, given the Government’s track record of failure to deliver over the past five years, and its apparent inability to implement any policy of significance without major cost and screw-ups, it’s unlikely that such a policy would be adopted during the term of this administration. But perhaps its an idea that an incoming government might take another look at? Anything which leaves more money in the pocket of the Kiwis who earned it is certainly worthy of consideration.
- Ashley Church is a property commentator for OneRoof.co.nz and a real estate business owner. Email him at [email protected]
