Reserve Bank Assistant Governor John McDermott says the central bank has always had regard to developments in the labour market in handling monetary policy and he sees the introduction of a new dual mandate, including an employment target, as ensuring the flexibility in the bank’s current approach endures.
“I see the inclusion of (maximum sustainable) employment into our mandate as reinforcing the flexibility of inflation targeting. That said, it is still too early to determine what effect these changes will have on the conduct and communication of monetary policy,” he said.
In a speech at a conference in Sydney that was actually delivered by RBNZ Economics Adviser, Rebecca Williams, (McDermott was affected by flight cancellations due to weather disruptions at Wellington Airport) McDermott said the RBNZ had a long history of meeting with businesses and organisations across the country, “and we regularly assess the available labour market data and are committed to discussing labour market developments. So my current sense is that, to a large extent, the changes are a way of ensuring that the flexibility in our approach endures.”
McDermott stress that the fact the RBNZ has operational independence and is transparent in meeting its objective “is as important for credibility today as it was in 1989”, when the Reserve Bank Act was created.
He said the exact wording of the full employment objective to be put into the Act is yet to be determined. However, the new Policy Targets Agreement that new RBNZ Governor Adrian Orr signed a few weeks ago on March 26th reflected the upcoming changes to the Act, and does not provide the Bank with a numerical target for full employment as it has with price stability.
“This is helpful, as ‘maximum sustainable employment’ cannot be fully captured by a single indicator,” McDermott said.
“Focusing too narrowly on one indicator, such as the unemployment rate, can be misleading. For example, a fall in the unemployment rate could be the result of an increased demand for labour – typically reflecting a strong economy – or the result of people dropping out of the labour force altogether because they are unable to find a job and have become discouraged.
“These different causes have very different implications for how the labour market is evolving and would therefore have very different implications for monetary policy. Specifying a numerical target for inflation but leaving the employment target as a qualitative objective is consistent with the practice here in Australia, and in the United States too.
“The Bank will continue to consider a wide range of labour market indicators when formulating policy, although we will communicate our assessment of and outlook for the labour market in more detail than we have in the past. And just as with inflation, our understanding of the labour market can always be improved as we are faced with new data, new developments, and as new research methods become available.
“That said, there are widely-recognised limits to what monetary policy can do over the long run. We have some influence over the degree to which the unemployment rate, as just one example, deviates from its underlying trend. But ultimately that underlying trend is determined by factors outside of our ability to influence, that rely instead upon the age and skills of the population, the efficiency with which jobs are matched to available workers, and the nature of employment regulation,” McDermott said.
The other major change initiated by the new Government has been for the RBNZ’s decision-making process to be moved to a committee structure, away from the single-decision maker (the RBNZ Governor) model.
“The Government will formalise a monetary policy committee (MPC) in the Act, and add members from outside the Bank, ‘externals’, onto the committee. The Act will allow the MPC to have between five and seven members, but there will be seven initially, and there will always be more internal than external members. All members will be nominated by the Reserve Bank Board, and appointed by the Minister of Finance. There will also be a non-voting observer from the New Zealand Treasury.
“The MPC and Minister of Finance will agree a Charter setting out the approach to issues defined in the Act, including the approach to communications. Details of the first Charter are yet to be determined, but the Minister intends for the MPC to aim to reach decisions by consensus, and for non-attributed votes to be published where there is not consensus. The Minister also intends for non-attributed records of meetings to be published that reflect any differences of view among the MPC. We will no doubt explain these and other changes – and their potential implications for the setting and communicating of policy – as they are finalised.
“Of course, the creation of a formal (or indeed informal) committee does not guarantee superior outcomes. How the MPC will operate in practice is also extremely important,” McDermott said.
“Committees are more successful when they have processes in place that aim to minimise various human biases, such as the pressure to conform, confirmation bias, and a tendency to rely on the most recent events to a greater extent than is sometimes warranted.
“The Bank will continue to ensure our internal processes aim to maximise the benefits that committees can provide.”