Interest rate policy should change. For the last 20 years interest rate policy in New Zealand has targeted inflation. And finally it is being recognised that the costs of this policy are getting too large. We say finally because Trevor Mallard, Labour’s Associate Minister of Finance, and New Zealand First leader Winston Peters have both said they are willing to look at amendments to the Reserve Bank Act.

The Reserve Bank and its followers say the only thing their interest rate policy affects is inflation. Yes, inflation is bad. Unemployment is also bad, as are low wages, a trade deficit, a skill shortage, and a migration exodus. New Zealand has a law that says policy-makers must fight inflation. Why is the fight against inflation given exalted status as the only economic target specified in legislation? Why are there no laws directing policy-makers to fight these other ills with equal tenacity and venom?
The Reserve Bank’s intentions are to hold interest rates high so you have less money to spend on goods and services. This mechanism reduces employment, increases the number unemployed and reduces the pressure to increase wages. This is how the Reserve Bank controls inflation.

The interest rates set by the Reserve Bank attracts foreign money into New Zealand. This money is from people who want the high interest rates, but do not want to invest long term in New Zealand. When the foreign money buys Kiwi dollars the exchange rate goes up to its present level of $US 75 to 80 cents.

Now that is fine if you are going on an overseas holiday, but it makes it impossible for our exporters to compete in overseas markets. And even the cheap trips only last so long. Sooner or later the market or the economy breaks and the exchange rate is driven down to $US 40 to 50 cents. A disaster for your overseas trip, and exporters who know this exchange rate will not last long.

These exchange rate movements are a key reason why our Fisher and Paykel factories have moved to Thailand and Mexico, and why Icebreaker clothes are now made in China.

The foreign money attracted by the high interest rates is much more than is needed to run and grow the New Zealand economy. Where does the money go? Banks and finance companies lend it to New Zealanders. It is easy to borrow so we are prepared to pay higher prices for our houses, farms, and other property. The higher interest rates and higher house prices make houses unaffordable to many buyers.

Another consequence is that some New Zealanders are encouraged to deposit their savings with finance companies who lend it on to increasingly risky ventures. As soon as a chilly breeze begins to blow these finance companies fall over, taking our savings with them. And now is not the first lot we have lost – remember DFC, Equiticorp, Chase and the bailout of the BNZ in the early 1990s?

But, the really important long-term effect is that our incomes do not increase much. None of this short term, high interest rate money is invested in productive factories, new technology, and training that would increase our productivity and incomes.

The Reserve Bank has recently published its forecast of the economy over the next three years. This shows the cost of controlling medium-term inflation by keeping interest rates high. We estimate this policy will reduce employment by 95,000 people and GDP will be $7.5 billion to $8 billion less than it should be. This is as much GDP produced by the whole agriculture sector in one year – dairy, meat, kiwifruit, grapes the lot. It is also about as much GDP generated by the whole construction industry in one year. That is a lot of income for us to sacrifice just to control inflation. And, as the chart shows, we’ve already sacrificed a lot of income in the past.

And holding back our incomes is one reason why New Zealanders emigrate to Australia.

Exports, employment and the trade deficit are just as important as controlling inflation. Many business people and economists here and around the world agree that change is necessary. Now that some politicians are finally discussing change, we urge others to agree on a change in interest rate policy to benefit the whole economy. And we hope they agree sooner, rather than later.

Click here to view Kel's conversation on this topic on TV3's sunrise programme.

The views expressed in this article are those of the the author,