Labour’s new monetary policy tool

Labour has announced its new monetary policy tool – a variable savings rate (VSR) which would allow the Reserve Bank to vary Kiwisaver savings rates. It would be an alternative to raising the OCR to raise interest rates.

It’s a fascinating idea, although I’d need to see some fairly detailed modelling to have any idea whether it would actually work.

The policy is aimed at a number of different targets:

  • There’s the obvious target – reducing interest rates rises. Essentially, the Reserve Bank would use the VSR to take money out of circulation, rather than higher interest rates.
  • There’s exchange rates. Labour argues that our dollar is over-valued, and most analysts seem to agree. Lower interest rates make our dollar less attractive, helping exporters.
  • There’s New Zealand’s woeful savings rates. Labour would be making Kiwisaver compulsory, and the higher the VSR, the higher our level of national savings. According to David Parker, Labour’s finance spokesperson, Labour wants to see the Kiwisaver contribution rate rise from its current rate of 6% to around 9%. That’s a significant increase in national savings…
  • There’s our ever-ongoing annual current account deficit. A lower dollar makes imports more expensive, while making exporting easier. Over time, our current account deficit should diminish.

The policy seems likely to be sold on two fronts. Firstly, it’s a blatant pitch to those with a mortgage – “We’ll keep your interest rates low!” Secondly, judging by David Parker’s language on Radio NZ’s Nine to Noon show, there’ll be a nationalistic attack on overseas banks – “Keep your money in Kiwisaver, rather than giving it away in profit to overseas banks!”

(The second sales pitch seems somewhat dishonest to me. When mortgage rates go up following an OCR increase, term deposit rates increase as well – when New Zealanders with a mortgage pay more, New Zealanders with savings in the bank earn more. Banks have a gap between what they borrow at and what they lend at – that’s where they make their profit (not including the various accounts they charge). Bank profitability isn’t hugely impacted by whether the OCR sits at 3% or 3.25%.)

There are a number of fishhooks and double-edged swords in the policy though. The major fishhook is also a major selling point (to me) of the policy – those with mortgages are a minority in New Zealand; those who earn a wage or salary and would therefore be subject to compulsory Kiwisaver and the VSR are a majority. Any movement in the VSR will therefore directly impact a far wider pool of consumers than would a movement in the OCR. That’s a problem for those with little discretionary income who don’t have a mortgage, but it also makes the tool rather more effective. The Reserve Bank has always had to struggle with the fact that a majority of mortgage funds are often fixed, meaning that increases in the OCR can take longer periods of time to impact on many mortgage holders.

For those with a mortgage and a wage or salary, the benefit of interest rates not rising is offset in the short- to medium-term by increased Kiwisaver payments. Sure, they’ll get those funds back on retirement, but it’s not money that is available for them to reduce their mortgage or otherwise tap into prior to retirement.

Then there’s the issue of the value of the NZ dollar. It’s been high for some time now and consumers appear to have gotten quite used to cheap electronics and the like. Drive the dollar lower and all of those manufactured goods become more expensive, which isn’t crash hot news for consumers, especially not those who have just watched a higher portion of their wage disappear into their Kiwisaver account. Drive the dollar lower and watch the price of imported fuel increase, with all of the flow on effects that entails. There are pros and cons to whatever level the dollar is at. How does the Reserve Bank decide what the “correct” value should be?

Obviously it’s a policy that is going need some further fleshing out. For instance, Labour doesn’t yet know whether the Reserve Bank would have the power to adjust the VSR itself or whether it would have to provide advice to the government of the day on whether it wanted the VSR raised or lowered (presumably, if the government failed to follow that advice, the Reserve Bank would then act using the OCR). However, it’s certainly a policy worthy of broader discussion.

Regardless, the attack lines from the Right are already out. Just look at David Farrar’s headline at Kiwiblog – “Labour proposes a cut in everyone’s after tax income“…


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