Thanks for the invitation to comment.
Following Brian above … and given my own degree is in architecture, not finance … I will offer the thoughts as I understand them of various economists of the Austrian School.
My first observation would be to point out that when a politician raises the prospect of changing the Reserve Bank criteria just a dozen weeks or so before an election, then it should be obvious the primary driver is not good economics — especially when it comes from Trevor ‘Look At My Big Stadium’ Mallard.
Keep that in mind with everything Mallard says on this or any other subject.
There are two relevant aspects to the “one way bet” that is NZ currency — one good, one not so good.
ONE WAY BET
First of all, the present arrangement is at least predictable. Well, moderately predictable. Investors and users of capital still need to take account of how Alan Bollard is feeling on any particular morning, but at least the criteria on which he makes his decisions are clear, and widely understood. On this basis, any good investment is a one way bet. This clarity is a good thing, and should not be sacrificed just to be seen to be “doing something.”
But there is a serious positive feedback loop that shows the economic thinking on which the Reserve Bank Act is based is flawed, not least in its bogus pursuit of ‘price stability.’ The flawed macroeconomic model insists that raising interest rates lowers price inflation, but as with all government meddling once the law of unintended consequences kicks in we find that raising interest rates simply makes our currency more attractive to short-term overseas investors, leading to the inflow of credit and the creation of various bubbles (including housing, most recently) that politicians use as excuses for more meddling.
The credit is not easy in the sense of being low interest, but it is (or was) very easily available, and at a cost that borrowers thought was affordable.
The collapse of two-dozen finance companies since shows that many borrowers were wrong, and that the effect of this ‘easy’ credit was not investment for productivity, but malinvestment. BUt that is always the case with the counterfeit capital created by central banks.
Rather than change the economy to fit the model, as the various calls for the likes of a capital gains tax require, why not let economic thinking actually refelct the way people behave.
Any meddling for either ‘economic growth’ or ‘price stability‘ is flawed. It’s this meddling that got us into trouble in the first place — it assumes the central banker knows what to do to promote growth, and assumes too that the law of unintended consequences won’t kick in again, whatever arrangements might made to avoid the present problems. The irony is that it’s the pursuit of price stability that has led to rampant instability.
The fact is that there is no free market in money, and this the basic reason for most of the problems being attribute to markets — a further irony is that it was so called ‘free marketeers’ who introduced the nationalised money which has created all the problems.
As economist Larry Sechrest points out,
“Mark this well. Central banks are the source of both inflation and business cycles. Tragically, many people seem to believe that both inflation and boom-bust cycles are somehow an intrinsic part of a market economy. They thus turn to the central bank to solve the problems that the central bank itself created. I might add that the very existence of a central bank introduces into all markets pervasive “regulatory risk” that would not otherwise exist. That is, market participants expend real resources in an attempt to forecast—and then cope with—the manipulations of money, credit, prices, and interest rates undertaken by the central bank. It all sounds frighteningly familiar.”
NO FREE MARKET IN MONEY.
It’s often assumed that with the introduction of the Reserve Bank Act and the Stabilisation Act and so on, and the explicit pursuit of price stability since then, that inflation itself has been tamed, and all that’s needed now is a little tinkering with the mechanism by which inflation is kept down.
This whole conclusion is erroneous, since in order to hold the prices of an ever-changing nominal “basket of goods” stable, the local currency (measured by M3) has been inflated by about eight percent annually since 1988, leading to serious problems with the exchange rate, and problems for producers, exporters, home-owners and prosperity overall, and the rampant rise of malinvestment.
For a number or reasons, the pursuit of price stability is itself seriously flawed. One of the most serious flaws is that it kills price signals stone dead — and since it’s price signals that are the means by which economies are coordinated, what you’re destroying is the very means by which markets clear. Bad move.
It’s this vain pursuit of price stability that is the real issue, however the means by which it’s pursued are tinkered with. If commodities go up for good market reasons, or housing, or food, then squelching prices across all sectors to kill rises in just one makes no sense. And trying to squelch prices rises in the likes of oil and food, that are caused by overseas pressures wholly outside the local jurisdiction, is just insane. Even if you were successful, which is unlikely, what you’re squelching is not inflation but price signals. Not good.
The fact is, that in pursuing this illusion of price stability while ignoring (and in fact exacerbating real inflation), our wealth is still being stolen, and we are being set up for some serious future problems as the whole price system unravels. MA Abrams explains: “In an economically progressive community (that is, one where the real costs of production per unit are falling and output per head is increasing), any additions to the supply of money in order to prevent falling prices will be hidden inflation; and in a retrogressive community, (that is, one where output per head is diminishing and real costs of production are rising), any contraction of the supply of money in order to prevent rising prices will be hidden deflation. Inflation and deflation can occur just as well behind a stable price level as when the price level is rising and falling…”
Further, this economic model assumes that inflating the money supply will have no effect on inflation. But this is absurd. Inflating the money supply is inflation.
At bottom, that’s what all this tinkering with nationalised money is all about — a means whereby to avoid the truth that inflating the money supply is a way of trying to get something for nothing, and there’s some way whereby to avoid the consequences of that delusion.
What’s becoming urgent is not mere tinkering, but a serious rethink of the basis on which the money supply was nationalised, and how the nationalised money is managed. Here’s two simple steps:
1) Stop inflating the currency.
2) Let interest rates float.
That’s as much of a medium-term prescription as you need. The long-term prescription calls for completely free banking.