Adrian Orr warns of housing bubble risks but says Reserve Bank stimulus settings must stay

Reserve Bank Governor Adrian Orr today addressed concerns around a housing market bubble, while reiterating the Bank’s commitment to ongoing monetary policy stimulus.

Speaking at the New Zealand Economics Forum at the University of Waikato, Orr reflected on New Zealand’s success over the past year.

That was primarily due to the success of New Zealand’s health response and there was “no bigger variable” in the short term, he said.

“The ability for the economy to maintain the current momentum is always going to be, first and foremost, a function of the health outcomes as we go through this global vaccination challenge,” he said.

Orr highlighted some other specific contributors to New Zealand’s relative success including the strong cohesion of government fiscal policy and monetary policy, along with support from the bank sector and other private sector groups.

He singled out the success of the wage subsidy programme in maintaining confidence and capability of the private sector to keep employing people.

“You can’t keep doing that, unless you want to call yourself the Soviet Union in 1922 or something. That is a policy for extraordinary times. And I really hope we don’t go back to extraordinary times.”

In the medium term, continued economic success was going to come down to the confidence of households and businesses to invest and to adapt, he said.

“Not to business as usual – because we won’t see that – but to go back to long-term planning, long-term investment.”

He warned that after much initial success New Zealand now faced a difficult period.

“The global vaccine rollout is fantastic news. It means we can now see the horizon of this pandemic issue,” he said.

“But the horizon is still some way off and it’s going to be a long period before sufficient global immunity is there and before we turn back to whatever [the] new normal looks like.

“Given the ongoing economic uncertainty, given nervousness around business investment, given how low inflation has been and how employment remains a way from its maximum sustainable estimates, that’s why monetary policy remains very stimulatory.”

But Orr acknowledged that has created new challenges, not least the sharp rise in house prices and other asset price inflation.

“One channel of monetary policy is through lower interest rates helping to inflate asset prices,” he said.

“Those who own those assets suddenly feel wealthier and more inclined to spend. Their spending increases economic activity and increases employment. And we get that short-term shot to the arm.

“So without doubt monetary policy and interest rates have an influence on asset prices.”

That had not come as a surprise, he said.

“This is a global phenomenon through history. It’s not unique to New Zealand right here and right now.”

But it was the case that in New Zealand the house was the key asset for people, perhaps more so than anywhere else in the world.

Orr said he did worry about asset bubble risk.

“We should be very worried. Returns do not come for free. Leverage is a significant risk,” he said.

“There is no such thing as a free lunch.Every investment should have a return which is commensurate to the risk they are taking on and people need to better understand and accept that risk.

“People who are over-concentrated in any one single asset are not making wise investment decisions,” he said.

“The interest rate is one small part, it is about the cost of funding your investment, it’s not the future performance of the investment. So think much harder and smarter about where you want to be.”

It was critical that the RBNZ understand those wider impacts that monetary policy could have and it would continue to work to do that, he said.

“That work on housing asset prices, income, equality and inequality is incredibly important to us.”

Orr said he welcomed the new directive from the Government on the consideration of house prices in policy setting.

But he stressed that it was being delivered primarily down the financial stability channel.

The directive from Finance Minister Grant Robertson was added to clause 68B of the Reserve Bank Act requiring it to have regard to government policy on housing in relation to its financial policy functions.

“When it was announced it was conflated with the monetary policy mandate,” Orr said.

“Yes, that committee mandate has changed but at the margin.

“It is about us saying we have to translate the impact of our monetary policy decisions on the Government’s housing goals.”

Questioned after his speech about whether the directive had created tension between the Reserve Bank and Government Orr said the relationship was “incredibly strong”.

The RBNZ had written the paper which provided the recommendations to the Government for the new housing directive, which would assist it “in being more proactive or courageous in this space”.

“That is exactly what has come from government,” he said.

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