Roy Davidson, 4 December 2019

Unconventional monetary policy, most notably quantitative easing, has always been something that has seemed far away from us in this part of the world. In fact, when the idea was raised by the Green Party in 2012, the idea was widely scorned, with the policy dumped within a year.

Quantitative easing essentially entails a central bank creating new money and using it to buy bonds to drive down interest rates, thereby incentivising businesses to invest and take more risks. Rightly or wrongly, a central bank will resort to a policy like quantitative easing when more conventional measures, such as lowering the cash rate, have been unsuccessful in breathing life back into the economy.

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Since the global financial crisis, the US Federal Reserve has adopted several rounds of quantitative easing. Likewise, the European Central Bank, the Swiss National Bank, the Bank of England, and the Bank of Japan (an early adopter of the tactic) have all been wholesale buyers of government and corporate bonds in a bid to inject life into their respective economies.

In this part of the world, however, both New Zealand and Australian central banks have to date been quite conventional in their policy actions. Both have continued to rely on the cash rate to control short-term interest rates and stimulate economic activity. Where innovative policy has been used, it has been very targeted – for example the Reserve Bank of New Zealand’s loan to value ratio (LVR) restrictions which were an attempt to cool the housing market.

However, there is a chance that this may change, with increasing calls for quantitative easing type policy to be enacted, particularly in Australia. This follows the recent slowdown in both the Australian and New Zealand economies, and that of key trading partner China, which has resulted in cash rates on both sides of the Tasman falling to record lows.

In Australia, the cash rate sits at 0.75 per cent while in New Zealand it sits at 1.0 per cent. This time last year, they stood at 1.5 per cent and 1.75 per cent respectively. While there are signs of life emerging on the economic front, this leaves few bullets left in the chamber should growth take another leg down. Inflation has also refused to play ball, consistently coming in below the target level of both central banks.

Reserve Bank of Australia Governor Philip Lowe recently delivered a speech entitled “Unconventional monetary policy: some lessons from overseas” at a dinner event in Sydney. This is a clear signal that the Reserve Bank of Australia, while almost certainly preferring to avoid such policies, is actively considering them should its hand be forced. Lowe stated that a quantitative easing type policy would be needed only if the cash rate fell to 0.25%, but that he did not expect to see that any time soon.

In New Zealand, Reserve Bank Governor Adrian Orr has to date been much more candid on the possibility of implementing a quantitative easing type policy, though has noted the Reserve Bank needs to be prepared. He has, however, publicly pushed harder for the Government, whose books remain in excellent shape, to loosen the purse strings a little bit and undertake productivity enhancing infrastructure projects. However, he too may find his hand forced.

We have certainly entered even more interesting economic times. Where unconventional monetary policy was seen as a distinctly faint possibility only a few years ago, it could soon be a reality should economic growth continue to falter.