Independent economist Rodney Jones is urging the Reserve Bank of New Zealand (RBNZ) to stop figuratively printing money, with inflation at its highest level in three decades.
Jones of Wigram Capital says the RBNZ must prioritize reducing the supply money, rather than just focusing on increasing Cost money (by raising interest rates), to curb inflation.
The amount of liquidity in the New Zealand financial system (New Zealand’s “monetary base”) has nearly quadrupled since February 2020, when the RBNZ began printing money in response to Covid-19.
Banks and other licensed financial institutions registered in New Zealand have a record $47 billion in their settlement accounts held by the RBNZ, up $40 billion from February 2020.
There is still $9 billion of currency in circulation, which is $2 billion more than in February 2020.
Speaking to the Herald, Jones said the RBNZ urgently needed to reduce the amount of bank deposits it holds.
This would help reduce inflation.
It would also save taxpayers money, as the RBNZ has to pay interest to banks on the $47 billion in deposits they currently have with the central bank.
Also, if the RBNZ is doing more to get money out of the system, it may not have to raise the official exchange rate (OCR) as aggressively.
How exactly can the RBNZ withdraw liquidity from the system?
Jones adds his name to the list of commentators urging the RBNZ to stop creating money and lending it to OCR banks.
Since launching its loan funding program in December 2020, the RBNZ has lent $12 billion to banks.
This is equivalent to 27% of the increase in bank lending that occurred between December 2020 and April 2022.
The idea behind the Loan Funding Program was to provide banks with a source of funding, should they struggle to attract deposits should OCR drop into negative territory.
The RBNZ has pledged to keep the facility available until December this year.
Jones said it had to go because it is incongruous for the RBNZ to tighten monetary conditions by raising the OCR with one hand and loosening conditions by increasing the money supply with the other.
The RBNZ says it must keep its word and keep the program in place for as long as it has announced.
Jones said this is counterproductive – the situation has changed, and so should RBNZ policy.
What is the second way Jones wants the RBNZ to reduce the money supply?
Jones also suggests that the RBNZ shed the panoply of bonds it bought in 2020 and 2021 as part of its large-scale asset purchase program, otherwise known as quantitative easing.
The RBNZ created money to buy $53 billion of New Zealand government bonds from banks, which bought them from the Treasury. These purchases helped fund the banks’ accounts with the RBNZ.
The idea was that if the RBNZ became a very active player in the bond market, bond yields would fall, putting downward pressure on interest rates more generally.
The RBNZ wanted interest rates low to support those in debt and encourage more borrowing and spending at a time when it feared the economy was struggling.
Once the economy started to recover, the RBNZ halted bond purchases in July 2021.
It will begin, from next month, to gradually resell the bonds directly to the Treasury, which will withdraw them.
If all goes according to plan, all government bonds purchased by the RBNZ will either mature or be sold by mid-2027.
The RBNZ wants to reduce the size of its balance sheet to allow it to use bond buying again in a future downturn.
Jones maintains that the shrinkage should have started earlier and now needs to happen faster.
He thinks the RBNZ should sell some of the bonds on the open market, to the banks it bought them from. This would reduce the $47 billion in deposits they have at the RBNZ.
The RBNZ pays banks interest at OCR (which increases) on these deposits. At 2%, the RBNZ is paying $940 million of the $47 billion in deposits.
The RBNZ opted to sell the bonds back to the Treasury because it fears dumping them on the open market would cause dysfunction – particularly if it sold at the same time the Treasury issued a bunch of new bonds.
However, Jones said the RBNZ and Treasury could coordinate to prevent the selloff from being disruptive.
He thinks the Treasury could also buy bonds from the RBNZ, using some of the excess cash the Crown has in its account with the RBNZ. This settlement account currently contains $27 billion.
This is high by historical standards, as the Crown has borrowed more than it has spent in recent years. As of February 2020, there was only $9 billion in the Crown Settlement Account.
However, since the RBNZ will only sell the bonds to the Treasury, the Treasury plans to issue up to $20 billion in new bonds to fund these purchases. This is a significant sum of money.
Issuing more debt, especially in an environment of rising interest rates, is expensive for taxpayers.
Jones believes this arrangement is avoidable and does not help to rapidly reduce the money supply in the financial system.
Once again, he insisted on tightening monetary conditions by reducing the the supply of money, could allow the RBNZ to increase Cost money less aggressively.