In what was billed as a  major speech yesterday, the Governor of the Reserve bank, Grant Spencer, appeared to begin engaging with the new Government which wants to change the Bank’s mandate.

The speech is the first real sign that the Bank may not be entirely averse to some of the changes Labour is proposing.

Of course the Bank watches politics closely, and its senior management have been aware for some time that any change of Government would have big implications for them.

That’s because both Labour and NZ First in Opposition proposed changes to the criteria the bank should use and the way it should set the Official Cash Rate.

The most radical of those proposals was one preferred by NZ First Leader, Winston Peters, which would have the bank target the exchange rate rather than inflation.

Ironically that is a proposal that the speech yesterday implies might be relevant sometime in the future if the international economy keeps impacting on New Zealand the way it has been lately.

The big political challenge for the Bank will be the review of its Act by an Independent Advisory Group announced by Finance Minister Grant Robertson on November 7.

“Phase One of the Review will focus on the election commitments made by Labour to add maximising employment to the price stability objective of the Bank, and to provide for a committee decision-making model for monetary policy decisions.

“In addition, the Review will consider whether changes are required to the role of the Reserve Bank Board as a consequence of the alterations to the decision making model,” Robertson said.

Yesterday’s speech needs to be seen as a preliminary contribution to this review.


Spencer argues that globalisation has changed the way inflation occurs in New Zealand.

Most notably, immigration and the global mobility of labour has reduced pressure on wages.

There is not much doubt that an increase in international labour mobility has also affected wage inflation in New Zealand,” he said.

“In some of the traditional non-traded sectors like construction, there  is now greater scope for employers to meet  skill shortages through  international hires, even  though  recent stretch in the construction industry has seen wage  costs increasing for certain occupations and skills.”

In terms of traded goods’ inflation Spencer says there have been three factors which have been part of globalisation which have driven low international inflation:

  • The creation of global supply chains whereby a product can be composed of parts made in different countries.
  • The growth of China since it joined the WTO
  • The digital revolution

Spencer said that Apple has close to 123,000 employees in the US, but over 700,000 world-wide.

“The iPhone is designed in the United States; it uses components sourced from several countries including South  Korea,  Taiwan, and Japan; and is assembled in China.

“Outsourcing and supply chain integration of this sort has lowered the price of a wide range of manufactures sold across the world.

“ It has also placed downward pressure on the wages of lower-skilled jobs in advanced economies.”

He said that since joining the World Trade  Organisation (WTO) in 2001,  China has quickly become the largest exporting nation in the world, with around 13 percent of percent of merchandise exports and 18 per cent of manufacturing exports.

“This capacity expansion has had a restraining effect on prices of industrial materials and,  in turn, a wide range of manufactured goods,” he said. 

And he said the falling price of digital technology  globally had been reflected in the New Zealand Consumers’ Price Index where prices of computing and telecommunication equipment and services have largely been falling since 2000.

“Advancements in technology also mean that consumers get more for less,” he said.

Spencer says that what this has meant is that the traditional relationship between inflation and unemployment —- where generally speaking, high inflation leads to greater unemployment and low inflation less, is now not so clear. 

“There is now less inflation for a given level of unemployment and less apparent responsiveness of inflation to changes in unemployment,” he said. 

What this adds up to, he says, is that if these changes are long lasting and New Zealand firms are increasingly integrated with global markets, then domestic ‘non-traded’ inflation may become less responsive to monetary policy changes.

“In the extreme case, New Zealand would be a fully open economy with all prices and wages set in international markets.

“The exchange rate  would become the main conduit for monetary policy to achieve its price stability objective.”

That, of course, is exactly what Winston Peters has proposed – the so-called Singaporean model. 

In the meantime, the Bank is adopting a more flexible approach to setting the OCR.

“It is fair to say that our flexible inflation targeting approach is becoming more flexible,” said Spencer.

“In pursuing our long-term price stability objective, relatively more weight is being attached to the stabilisation of output and employment in short to medium term. 

“In this respect, the Reserve Bank’s direction is consistent with the Government’s initiative to introduce a dual mandate for monetary policy.

“However, we should recognise that such an approach can only be sustained if inflation expectations remain low and stable.

“Monetary  policy will only have greater scope to stabilise the real economy if its long-term commitment to price stability is maintained.”

So there is a warning there — that the ultimate goal of monetary policy, at least for the meantime, should be price stability.

Otherwise, the new Government ought to regard this speech as a move by the Reserve Bank to understand its policy proposals and to try and accommodate them.