Rescuing the New Zealand Economy: What Went Wrong and How We Can Fix it
Craig Potton Publishing, $29.99,
Rescuing the New Zealand Economy describes, in a very readable way, the why and how of the New Zealand monetary experiment from the mid-1980s to the present day, and comes at a time when a growing uneasiness at outcomes is being amplified by the credit crunch and probability of a depression akin to that of the 1930s. For non-economists sensing the problem but unsure of its anatomy, this book is essential reading. For those who implemented and supported the policy but are now reconsidering, it is well worthy of a read. For staunch believers in “monetarism”, the challenge is to prepare an equally well-argued reply as a contribution to the debate Bryan Gould is calling for.
I should declare my own bias. I was one of a few economists speaking out against the policies embodied in the Reserve Bank Act of 1989. Our views, based on theory, model forecasts and observation of similar policies elsewhere, were identical to those Gould had formed in Britain in the wake of the Thatcher policies of the late 1970s and early 1980s. He and I, therefore, sing from the same songbook.
It is a comfort to have someone with Gould’s credentials on one’s side. He left New Zealand in 1962 as a Rhodes Scholar and returned in 1994 as Vice-chancellor of the University of Waikato. In between, he was a diplomat in the British Foreign Office, a law don at Oxford, a Labour MP in Britain, and a contender for leadership of the British Labour Party. Thus he brings to the debate a seldom combined degree of acumen, political savvy and managerial experience, and he presents his critique with impeccable logic and mastery of the facts, albeit from a left-of-centre point of view.
His critique is in three parts. “How Did We Get Where We Are Now?” accounts for nearly half the book, and presents the empirical, theoretical and political background of monetary policy as it has operated since the mid-1980s. In an historical context, Gould describes how monetarism came to be adopted in New Zealand and why it has taken a particularly purist form despite deficiencies already apparent overseas and fallacies inherent in the theory.
He goes on to consider the economic and social outcomes and brings together data on New Zealand’s comparative performance which, when viewed as a whole, leaves little doubt that the impacts of these policies, far from being positive, have been negative to a degree little short of disastrous.
The reader is then taken on a consideration of why monetarism got it so wrong, why interest rate policy can be so damaging, why it is no longer effective in controlling inflation and why we have persisted with the policy so long. Academically, this can be technical but Gould handles it in a way reminiscent of Ernest Rutherford’s contention that if a physicist really understands his theory, he can explain it to the technicians working on his experiments. Thus he puts the discussion into the context of the politics of “Thatcherism”, the power of interest groups, the effect of unregulated capital flows and reference to concrete examples that are part of every day experience.
Part two, “Detours, Diversions, and Wrong Turnings”, discusses issues that are part of the “monetarist revolution”, but tangential to monetary policy. On the role of the market, Gould defends those who question current policy against charges they are “anti-market” and countercharges those currently in charge of monetary policy as “asserting its infallibility”. “[T]o be critical of an extreme doctrine of ‘free-market’ economics,” he says, “is not to undermine, but strengthen, the role of the market in our economy.”
He sees the concept of the independence of the central bank “as a major step away from democratic government” and “part of the economic policy fashion swing back towards free market doctrines”. “What could be more natural,” he says, “than to ensure … [in the context of an overall monetarist approach] … that elected politicians do not interfere in the formulation of monetary policy.” Moreover, he points out that it suits politicians too, since in difficult economic times, “they can stand aside and let the bankers take the rap.”
Other tangential issues touched on are Tony Blair’s “third way”, the possibility of a closer union with Australia, the inadequacies of GDP as a measure of economic success, and the notion that “there is no alternative”. While some may have merit in themselves, he sees them all as diversions from the main attack, namely that “concentration on the single bottom line precludes any consideration other than profit and insists that all costs must be … passed on to someone else or to society as a whole.”
The concluding part, “Where Do We Go From Here?”, is largely a catalogue of suggestions for improved monetary policy from reputable economists, international authorities and business leaders, which he believes worthy of serious consideration.
At the top of this list is the use of exchange and interest rates to control inflation by increasing supply rather than reducing demand. He doesn’t specify exactly how, but elsewhere in the book he writes approvingly of Singapore’s monetary policy, which has done precisely that, by relying on management of the exchange rate, instead of interest rates, to achieve non-inflationary growth in the medium term.
Other proposals for debate include a greater degree of integration of monetary and fiscal policies, greater emphasis on bank credit as a monetary target, replacement of the Official Cash Rate by an “Interest-linked Savings Scheme”, and international co-operation in restraining exchange rate volatility.
Gould’s summary presents a history and assessment of monetary policy in New Zealand over the past quarter century. Although written before the seriousness of the current credit crunch had become apparent, its relevance and validity become more and more enhanced as that event unfolds. In designing a better system for New Zealand, the need for which is no longer in doubt, his book provides an historical and analytical background that will be helpful in preventing a continuation of past mistakes and the making of new ones.
Allan Catt is an emeritus professor of economics at the University of Auckland.