Govt gives RB more flexibility on inflation target

By NZPA

Tuesday 17th September 2002

New Reserve Bank Governor Alan Bollard was given more flexibility by Finance Minister Michael Cullen in meeting the bank's inflation target when they signed a new Policy Target Agreement (PTA) today.

The new agreement raises the bottom limit of the inflation target so that the bank is now aiming at a 1-3 percent inflation band rather than the old 0-3 percent range.

The agreement also requires the bank to aim at that target "on average over the medium-term".

Dr Cullen said the most important aspect of the change was in how monetary policy was managed.

Dr Bollard said it gave the governor "what he needs to manage monetary policy through the sort of situations that we are likely to encounter".

"I don't expect the bank to become any more popular as a result of this at all. I expect to continue to play the role of a central bank which inevitably has to take conservative decisions all the time and sometimes those are quite unpopular."

He said the main aid the change would make to New Zealand's growth rate would be to ensure it was not misconducting monetary policy -- that it doesn't put on an unnecessary brake. It would give a more stable backdrop that would allow higher growth.

"Whether or not there is higher growth or not is outside the gambit of the bank."

Dr Cullen said it was "facilitative, not creative of additional growth, no more than that". Other drivers of growth such as innovation, infrastructure development and export creation were much more important in lifting the sustainable growth rate.

Dr Bollard said there was potential for New Zealand's sustainable growth rate to rise above the current 3 percent estimate of the RB.

He would not precisely define medium-term but said it was "long enough to allow us to look through the business cycle".

The medium-term could be longer than two years but periods when the inflation rate was outside the band would be "relatively brief".

Dr Cullen said a 2-3 percent target was rejected as inflationary expectations were already anchored around 2 percent and he did not wish to encourage those to go higher.

Dr Bollard said his regular consultations with the Government would not undermine the bank's independence. It simply clarified the process and made it more transparent.

His salary would be $450,000 as governor compared with around $400,000 as head of the Treasury.

A senior US investment banker, who did not wish to be identified, said that the new definition essentially put New Zealand on the same footing as Australia even though Dr Cullen had not chosen a 2-3 percent target.

Meanwhile, Dr Brash has defended the old monetary policy agreement of 0-3 percent.

He said the biggest danger in changing "a perfectly satisfactory agreement on inflation control" was that people might be fooled into thinking it would boost economic growth.

"The unavoidable conclusion is that the minister wants the new governor to deliver a higher average rate of inflation. This will do nothing for faster economic growth, and will inevitably lead to higher interest rates."

Dr Brash said Dr Cullen was trying to make the business community think the RB had been inflexible in years past. But an international expert whom Dr Cullen himself had commissioned to examine monetary policy in recent years had concluded that the RB's handling had been consistent with best international practice.

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