Pedal to the metal but still no traction

Written By: - Date published: 12:43 pm, January 29th, 2009 - 5 comments
Categories: economy - Tags:

down-graphAnother review of the Official Cash Rate, another record cut. This time, it’s a 1.5% cut bringing the OCR to 3.5%. That’s the lowest rate since the OCR was introduced in 1999.  Good news for those with floating rate mortgages (not so good for the 80% of mortgagees with a fixed rate) and an opportunity for me to feel smug for locking in that money on term deposit back in June. But, more seriously, this is yet more evidence of how serious the economic situation is; the Reserve Bank is throwing everything, including the kitchen sink, at the problem and there is no sign of it making a blind bit of difference. Paradoxically, the scale and swiftness of the reaction by our Reserve Bank and other central banks around the world has been seen as panic by the credit market and further discouraged lending.

Yesterday, the Herald editorial wrote of the Reserve Bank’s use of the OCR: “Brakes are an effective means of control of a vehicle with momentum, they are less effective at restoring momentum when the vehicle has practically stalled.” Now, that of course just shows what a crappy analogy brakes are for monetary policy*. In fact, monetary policy is more like an accelerator. When the economy is going to fast, causing the engine to overheat (inflation), you decrease the money supply, part of the fuel of the economy, by increasing interest rates. When the economy is growing only slowly and overheating isn’t an issue, you increase the money supply by cutting rates, promoting growth.

Problem is, this time our economy is stuck, along with the rest of the world, in a quagmire. More acceleration isn’t doing the trick. Most major economies already have their pedal to the floor and we’re getting close to joining them. To strain the analogy a little further, even if an all out of burst of acceleration does get us moving again, we’re still in a vehicle that is not designed for the new terrain we’re in. Ultimately, we need to re-design the economy into a smarter, greener one that uses energy more efficiently and isn’t so reliant on depleting reserves of fossil fuels – so that it isn’t so vulnerable to future oil shocks like last year’s.

Right now, we’re asking monetary policy to fix a crisis that it wasn’t designed to deal with. Until we adapt to the new economic realities, we’re just going to keep getting stuck.

*[The Herald editorial also said the OCR is reviewed monthly. It’s every six weeks.]

5 comments on “Pedal to the metal but still no traction”

  1. Steve Withers 1

    The OCR cut will take money out of most saver’s pockets by reducing the return on savings. If the NZ dollar falls, we all – debtors and savers – have just had our purchasing power cut in the hope discounting NZ to the world will spur exports. Maybe. But we get the downside no matter what. Whose money are the banks lending for next to nothing?

  2. bobo 2

    Until the western world learns to live without relying on credit it will grind on, dam how did the capitalism survive before the days of hire purchase and maxing out on credit cards?

    Any early bids on John Keys stinky musky arm cast with some obscure pacific leaders autographs, that Hawaii style shirt would fetch more on trademe for a retro Magnum PI theme karaoke night.

  3. randal 3

    everybody seems to think that the depression might go away if we just talk about it
    nada
    wont come right till the next global armaments re-order
    meanwhile we are sitting pretty
    and all the whinging and moaning and most of all VIBRATING…hehehehe aint gonna make a whit of difference
    q.e.d.

  4. Rex Widerstrom 4

    It’s an unpopular viewpoint, I know – and even less likely to find favour on the left when a National government is in power – but I’m of the view that the ultimate control of monetary policy needs to be in the hands of our elected representatives.

    You’re right, Steve, when you say “we’re asking monetary policy to fix a crisis that it wasn’t designed to deal with” and that “we need to re-design the economy”. But when an unelected board can pull on the brake (or push the accelerator, if you prefer) irrespective of the wider goals of the government of the day, then that government is going to be hampered in its response to conditions other than inflation.

    No one thinks inflation is a good thing, but nor is it the monster in the wardrobe we’ve come to believe it is. If it means retaining jobs, for instance, there can be a case made for allowing inflation to move outside the band for a period.

    Certainly the Reserve Bank should advise on the policy, and publicly, so the government can be held to account if it decides to ignore that advice. But if we’re to take the holistic approach to the economy which you advocate, we can’t have a significant piece of the whole being manipulated in a boardroom on The Terrace by people who aren’t accountable to those upon whom their decisions impact.

  5. Gooner 5

    Yes, you’re right Steve about the monetary policy ‘fix’. But I’m not sure your fix is entirely the answer, energy efficiency and all that.

    I want to know what is going to happen when the Japanese investors start pulling their money out of NZ because they aren’t earning anything on it.

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