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Monetary policy and political consensus - Cullen

Hon. Michael Cullen
22 November 2007 Speech Notes

Monetary policy and political consensus

Address to the Wood Processors Association of New Zealand Annual Conference, Civic Suite, Wellington Convention Centre, 111 Wakefield St, Wellington. 10:00am Thursday 22 November 2007.

Good morning and thank you for that introduction and for the invitation to speak to you today.

You have invited me here today to speak about the government’s view on monetary policy. This has certainly been among the most significant issues in the economic debate in 2007, and I know for the Wood Processors Association it has arguably been the most significant issue of concern to your membership. I will keep my comments brief to allow plenty of time for your questions.

You will hear later today from my Parliamentary colleague Jeannette Fitzsimons, who I am sure will cover the very substantial issues around sustainability and climate change that are facing your sector and that are major priorities for the Labour-led government.

These issues will also be discussed by my colleague Forestry Minister Jim Anderton. Before he arrives, let me assure you all that Minister Anderton is a strong advocate for the wood processing sector around the Cabinet table. He has long advocated for increasing the amount of value-added wood processing rather than simply exporting unprocessed logs.

I do recognise, however, that these are challenging times for your sector. Prices for forestry products are near record highs. The short to medium term outlook looks positive, as strong demand from North East Asia balances the challenges created by the housing downturn in the United States.

It is of particular frustration then to your members to see the strength of the New Zealand Dollar eat into what should be very healthy profit margins at a time of high prices.

As Minister of Finance, I need to be very careful about speculating where I think the dollar will head, or what its natural value is. I am aware that many economists believe the dollar is likely to remain strong for some time, especially in relation to the US Dollar.

Despite how the issue is often reported in the New Zealand media, we are not alone in experiencing high exchange rates in relation to the US. The Australian Dollar, the Euro, and the Pound have all been at record highs in recent months.

The Canadian dollar has reached parity with the US Dollar, and indeed is currently worth slightly more. This is having a significant impact on the export of Canadian forestry products to the States, as is the previously mentioned housing market downturn.

But I know the fact that some of your chief international competitors are experiencing similar difficulties will be of little comfort to you. And I do not believe it should.

The strength of our currency has been driven by the weakening of the American dollar and the global increase in commodity prices, but it is true that higher interest rates here at home are playing their part as well. The Reserve Bank has ongoing concerns about persistent inflation at or near the top of the 3 per cent band, and as will be known to all of you, the Bank has a limited set of fairly blunt tools with which to keep inflation in check.

As I have been saying for quite some time now, the exporting sector has been called on to take too much of the strain of macroeconomic management by way of monetary policy.

I will return to that point in just a moment and will touch on the current monetary policy review being carried out by Parliament’s Finance and Expenditure Committee.

First though, I want to make it clear that the Labour-led government knows that we have a role to play in not only controlling demand within the domestic economy, but in promoting long-term macroeconomic stability. We take these responsibilities very seriously and over the last eight years of our government we have delivered on them.

New Zealand today has better public finances than nearly all other OECD countries – a particularly pleasing achievement considering where we stood in the early 1980s. Gross debt is now around twenty per cent of GDP and we no longer carry any net debt at all, if you include the assets of the New Zealand Superannuation Fund.

We have put in a place a responsible, forward looking strategy to transform this economy – one that seeks to place the economy on a sustainable footing so we can be even more resilient and flexible to meet the challenges to come.

This is the approach underlying the government’s KiwiSaver scheme, which will not only substantially improve the living standards New Zealanders enjoy in retirement, but will help correct some of the significant imbalances in our economy, including our unacceptably high Current Account Deficit. KiwiSaver will create a substantial pool of New Zealand-based capital for our companies to draw from, and will help curb domestic demand and take further heat out of the economy.

This responsible, long-term approach is what sat behind the government’s Budget 2007 Business Tax Package. While we cut the corporate tax rate from 33 to 30 cents, we also introduced tax credits to further incentivise research and development, hoping that firms would seize an opportunity to reinvest some of their dividend back into their future success.

This focus will also sit behind the personal tax cuts I will announce in next year’s Budget. Labour is serious about returning a dividend to working New Zealanders whose efforts under our government have driven the longest period of sustained economic growth in more than a generation. I have set myself four tests for the design of these personal tax cuts: they must not require borrowing to pay for them, they must not require cuts to services, they must not exacerbate inflationary pressures, and they must not lead to increased inequality in our society. Again, the focus, even with tax cuts, is on the long-term stability and success of our economy.

One thing that I will not do, however, is to continue to be expected to lean harder and harder against domestic demand by running ever larger surpluses. There seems to be a simultaneous view that while running large surpluses is a fiscal and political sin, any lowering of our surplus levels means that the government should be attacked for contributing to inflation. This argument is not only built on a fatally-flawed illogical foundation – it actually serves to distract us from doing something real and positive about improving monetary policy.

I feel strongly that the Reserve Bank must retain its focus on fighting inflation. But as I have said already, I am not unsympathetic to the view of the Wood Processors Association that the Bank needs smarter tools if our vital export sector will not have to feel a disproportionate amount of pain as a result.

On that note, I want to take you back to the 12th of December last year. On that day, Allan Bollard and I had a meeting in my office with National Party Leader John Key and Finance Spokesman Bill English. We discussed a joint Treasury and Reserve Bank report on alternative tools the Bank could use to target the real sources of inflation.

I called the meeting to discuss how we could build a bi-partisan consensus on monetary policy, because I knew the potential tools the Bank might need could lead us into political minefields if we weren’t careful. And I knew that the real losers from failing to reach a consensus would continue to be our exporters.

At the meeting, I must admit, I found John Key to be receptive to the idea that some sort of change would be required. We openly discussed the idea of a variable mortgage rate levy which would have allowed the Bank to directly target one of the key drivers of inflation without continuing to exacerbate pressure on our exporters. An understanding of the need to resist the urge to score political points on this issue seemed genuine and real from all sides.
But when earlier this year I dared to float the idea of the mortgage levy, Bill English within hours popped up in the media with exactly the political point scoring we had tried to avoid. Now let me be clear, the mortgage levy concept is dead in the water and it will not happen.

But later this afternoon, you have an opportunity to ask Bill English why he could not put politics to one side as we tried to have a rational discussion on monetary policy. You have the chance to ask him why politics matters more than doing something to ease the pressure being put on our exporters. You have the chance to ask him why National is still not taking the long-term needs of our economy seriously.

I look forward to getting reports back on how he responds.

But in the mean time, we must move ahead. The Finance and Expenditure Committee’s review of Monetary Policy that was initiated on my request has some way to go.

The terms of reference are comprehensive:

• To consider the causes of inflationary pressures.
• To consider the effectiveness of current monetary policy in controlling inflation.
• To examine the interaction of monetary policy with other elements of the economic policy framework including fiscal policy.
• To examine the New Zealand economy's capacity for non- inflationary growth, and how it can be improved.
• To examine the role of productivity in the economy, how it can be improved, and the constraints upon it.
• To examine the recommendations from recent examinations of monetary policy including the joint Treasury and Reserve Bank f New Zealand's report entitled Supplementary Stabilisation Instruments.
• To consider additional measures that could enhance monetary policy in New Zealand.

I know the WPA has made a submission to the inquiry and will be eager to see the results as am I.

But regardless, it is important that we all keep perspective.

The long-term outlook is positive. While in the short-term exporters will benefit from a lower exchange rate, we must not take our eye of doing what is necessary to move New Zealand further up the value chain.

Our long-term economic competitiveness will not be held hostage to monetary policy and a high exchange rate, but will be determined by our ability to continue to improve our productivity, to continue to invest more in research and development, to successfully pursue sustainability, and to continue to improve the skills and knowledge of our workforce.

Monetary policy is a major and ongoing challenge, but we cannot afford to forget that it is only one challenge.

Thank you and I look forward to your questions.


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