Finance Minister and RBNZ unwilling at this stage to link up directly to fund the fallout from COVID-19

Finance Minister and RBNZ unwilling at this stage to link up directly to fund the fallout from COVID-19
Grant Robertson & Adrian Orr

The Government last Wednesday passed legislation enabling it to borrow up to $52 billion before June to shield the country from the economic fallout from the COVID-19 pandemic.

This is the equivalent of 17% of “normal” time gross domestic product (GDP) or 60% of the tax we paid in the year to June 2019.

Finance Minister Grant Robertson characterised the $52 billion as an “emergency backstop”, not a prediction of exactly how much will be spent.

“But it does demonstrate the level of commitment of this House and this Government to fighting the virus and protecting New Zealand from it,” he said during the second reading of the Imprest Supply (Third for 2019/2020) Bill.

So yes, we’re talking big bucks.

The range of support measures Robertson has announced to date is expected to cost nearly $25 billion.

With net core Crown debt below 20% of GDP, the Government has room to borrow much more before hitting debt levels other countries are at.

Still, the debt will need to be repaid.

Before we consider the daunting question of what our society will need to forgo to get the country’s books back in shape, it’s worth considering how the debt should be raised.

The options

In the eyes of Raf Manji, an investment banker turned strategy and risk consultant, there are three ways to raise this debt:

  1. By Treasury selling bonds in the market
  2. By Treasury selling bonds directly to the Reserve Bank (RBNZ)
  3. By the RBNZ giving Treasury cash

Method Number 1, which is very run-of-mill, is currently being employed.

In fact, the New Zealand Debt Management (which is part of Treasury) will publish its bond issuance plans for the June quarter and provide an update on the 2019/20 New Zealand Government Bond programme at 8am on Wednesday.

The RBNZ is expected to buy a number of these bonds, having announced on March 23 that it will buy up to $30 billion of government bonds over the next year.

By the RBNZ helping increase demand for government bonds, this will reduce the yield, which will flow through to lower interest rates for borrowers. Low interest rates encourage spending and thus growth and inflation.

Why go through the secondary market when you could go direct?

However, Manji believes the RBNZ should jump to Method Number 2 and buy bonds directly from the Treasury at 0%.

Explaining his rationale in a piece written for interest.co.nz on March 23, he said:

“Lower interest rates, whilst important for bank funding and liquidity, are not really the solution to this problem right now.

“There is not going to be any new “investment” whilst businesses are going bust, and people are frantically working out how to pay basic bills and stock their cupboards. This is exactly the problem that the post-GFC approach experienced.

“All the new central bank money that went into the secondary market to buy government bonds and a whole range of other securities, ended up being redirected into financial markets, setting them off on a very, long bull market, which has now come to a shuddering end.

“What the RBNZ needs to do now is to make clear that it can and will purchase government bonds directly from the Treasury at 0%. These funds should be used to fund the current and forthcoming economic support packages.

“The RBNZ can and should still support the secondary bond market but it should not make the mistake of previous international QE [quantitative easing] programmes, and focus entirely on supporting the financial markets.”

Robertson and Hawkesby happy with the status quo for now

Asked by interest.co.nz last week whether Method Number 2 was on the cards, Robertson said it wasn’t necessary right now.

“The New Zealand Government continues to issue government bonds, as we always have,” he said.

“And in fact, I think they did one this morning and it was over-subscribed again, which means the bond market is continuing to work. That means New Zealand is in a position to continue to be able to take on debt.”

Meanwhile the RBNZ’s assistant governor, Christian Hawkesby, on Monday told interest.co.nz it wasn’t buying bonds direct from Treasury because this would blur the lines between fiscal and monetary policy, or the Government and RBNZ which are meant to be independent of each other.

“By parties acting in the secondary market we keep that clear distinction… once central banks start having long-term funding arrangements out of the secondary market, then that starts to blur what is fiscal policy and what is monetary policy,” Hawkesby said.

An argument for supporting financial markets

BNZ interest rate strategist, Nick Smyth, made a similar comment when asked about whether it was really necessary for money to flow through the financial system rather that going directly to where it’s needed - the Government’s purse.

“I don’t see too much difference between the RBNZ buying directly from Treasury or the RBNZ buying bonds from market participants who have themselves bought directly from Treasury. Ultimately, the money goes to government and bonds end up on the RBNZ balance sheet,” he said.

“Central banks generally try to maintain the appearance of not directly financing governments because it could lead to a slippery slope where the government gets used to unconstrained spending, the central bank loses independence and ultimately inflation could be a big problem…

“For me, it is better to transact in the secondary market, under a transparent framework with clearly defined objectives. 

“Part of what the RBNZ intends to achieve with quantitative easing is to restore liquidity to the secondary market in New Zealand Government Bonds, which has been strained recently. It helps achieve this objective by transacting in the secondary market. 

“Manji says, “The RBNZ can and should still support the secondary bond market but it should not make the mistake of previous international QE programmes, and focus entirely on the supporting the financial markets.” 

“I would argue that, at times like these, supporting financial markets and real economy are intertwined. If financial markets, like the bond market, stop functioning properly, then borrowers who rely on the capital markets might have difficulty rolling over coming maturities and accessing capital for investment and spending. This has real world, or real economy, implications. 

“If the RBNZ manages to lower yields on corporate bonds and so forth, this lowers the cost of borrowing for real world businesses.”

Eaqub supportive of Manji

Like Manji, economist Shamubeel Eaqub of Sense Partners, doesn’t see why we don’t jump straight to Method Number 2 - the RBNZ buying bonds from Treasury direct.

“It’s a question of how long do you wait until you get there,” he said, noting that as governments around the world issue bonds to pay for COVID-19, central banks will have to step in and buy these bonds.

Rather than waiting until the market can no longer scoop up all the bonds on offer, the RBNZ could get right to it - direct.

Why should New Zealand be the country to go into relatively unchartered waters?

“You need a crisis big enough to try new things,” Eaqub said.

“If you can’t try in a small country, where can you try?”

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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38 Comments

Could well blow the mantra of 'No New Taxes' out the window. Something's gotta give. That would be Us.....

Yes the curtain can now be raised folks now that we have a tune to play. And what does it reveal? Why all those dusty but convenient volumes on how to enact a tax grab that were put up on the shelf when the Clark & Cullen government were ungratefully and prematurely sent packing. Welcome to the show.

I'm not so sure FG. Ordinarily, printing money (which is what is happening here) would crash the NZ$ as the smart got their money into hard assets or foreign reserves. But everyone is in the same boat, all economies are simultaneously printing. So maybe nothing happens? NZ will still have public debt to GDP ratio that is sustainable and it's all Kiwi so we can finance it.

Thanks TK

I have to agree with your analysis.

Everyone, world through, are in the same boat. There is a big difference to externalising and internalising debt.

Externalising it ensures additional cash is needed from your internal economy to pay the external interest. NZ has had an investment deficit for as long as I remember, and increasing external interest payments will only ensure we have to borrow more externally to pay (even more) interest. Sounds and is a sure way to bankrupty, and just kicking the can down the road.

Internalising borrowing gives you much more options. As an example, if I provide a house mortgage to my children the interest payments stay within the family circle (accepting taxes). If they run into difficulty paying, I can just increase their mortgage borrowed and/or take possession of the house (and avoid a fire sale). If their mortgage was with an overseas bank, an increase in mortgage would remove (hard earned) cash from the family circle, and with a mortgagee sale (often sold at a big discount) these oversea banks are not interested in protecting your equity; only their own. So a further erosion of cash from your family circle.

NZ is a big family circle, and if we continue to increase borrowings from overseas banksters we will run out of hard earned cash and be bankrupted by them, with their overseas mates coming in to pick up the hard assets are discounted prices.

The line that we dont want to blur the lines of monetary and fiscal policy is plain porkies (with no justification); and straight from an overseas banksters mouth.

Its time for the NZ government to print money, and hand it directly out to the people (universal basic income), rather than oversea banksters who have bee gaming the system for too long.

Welcome to Venezuela

Why would you expect new taxes? As it stands the economy is almost coming to a standstill, so the Government's tax take is at risk of drying up, by injecting money into the economy they will stand to be a significant beneficiary. The problem they will have is stopping it going out of the country. As things get back to normal then they can work on a plan to pull it back out. Why do we need to keep creating debt? Haven't we figured out the current system doesn't work?

“Never mind where we will get the money from. We will do it. We will find a way.” “This is what happened in 1957, and they found a way. They found it the same way that they always find it - taking it by taxation.” R D Muldoon in parliament 1970s. Apart from the Lange government which was hardly typical, history tells us Labour views an increased tax take as the great panacea. They just cannot help themselves, it is the first port of call. Prior to the last election the electorate got wind of what was on the cards causing an abrupt and eleventh hour about face. Difficult to imagine those proposals have been shelved for good.

More new taxes and CGT will be look at once again.. Scrapping the bottom now.

Calling it now: global, behind-the-scenes mutual write-offs involving multiple central banks and the IMF.

The SDR thing - a bailout from the IMF

The same idea Jim Rickards been talking about for the last 5yrs?

Sounds like the failed ECB policy of negative rates which have blown up their bond market and is about to destroy the Euro. Oh well, follow the Pied Piper I suppose...
My bet is on a wealth tax coming our way...that’ll really lift confidence and spur investment. They just need to destroy the savings classes first...or what’s left of them anyway.

There are $ billions for example in bonus bonds. May as well be, there is a sporting chance of jackpotting perhaps, TD’s soon paying next to nothing anyway. These funds and others, could be gathered in by the government by simply upping the rates of the like of the old KISS type bonds introduced back in Muldoon’s time. In other words the government could go to the people, let them invest into their own nation, as occurred in the days of the war bonds. Yes, yes, yes maybe capital could be raised cheaper on the international shall we say market, but giving NZrs a better return gives them more money to spend into the economy. Is that not better instead of encouraging the public by way of bottom line interest rates to borrow to spend.

I think it is inevitable with the size of the coming depression, which I think will be comparable to the Great Depression that fiscal and monetary policy will collapse into each other. I think it could be a useful emergency power to tackle unemployment for a period of time until inflation becomes more concerning than the reduced economic activity.

Here is an example from an Austrian town in the Great Depression successfully experimenting with creating it's own currency for how fiscal and monetary policy can merge together in times of crisis.
http://www.lietaer.com/2010/03/the-worgl-experiment/

If financial markets, like the bond market, stop functioning properly, then borrowers who rely on the capital markets might have difficulty rolling over coming maturities and accessing capital for investment and spending.

But aren't most of these borrowers he is referring to asking for/getting government subsidies, as opposed to taking on more debt? Isn't that what happened with the big end of town in the US - they took the subsidies and then spent the QE money on share buybacks?

Progressive debt forgiveness on government bonds could be one way for RBNZ to increase the rate of inflation. After all if government ever tried to repay that debt it would likely push inflation far lower.

However, Manji believes the RBNZ should jump to Method Number 2 and buy bonds directly from the Treasury at 0%.

How does the RBNZ transform it's contingent liability (bank asset) into a credit in an accessible deposit account on the tax payers behalf?

Notably, the government IOU has been purchased with the RBNZ's own IOU to the banks.- I guess the circularity of this arrangement has not been subject to scrutiny.

As far as I know only banks can purchase a borrower's IOU and credit the same value with it's own IOU in the borrower's deposit account.

Banks will surely extend this facility to government IOUs. Thereafter, government can spend it's deposit directly through the banking system to eligible recipients via it's interest payments to service it's IOU and further promises to pay.

Method 2 is surely a version of MMT, where govt spends into the economy with salaries thus driving consumption. All that matters is consumption (in economic theory) & it doesn't matter so much how it happens. Using a different channel for monetary expansion won't support house prices though.

A government credit on the government's balance sheet is not easily dispersed into general society without a developed infrastructure. That's why the government employs Westpac as it's banker.

LOL.

Haha, yes I expect that will be one of the distortions to come out in the mix. Free borrowed money to spend but can we wait 4 years while we train shop assitants and baristas to build bridges (perhaps to nowhere). You know I despise all politician equally right? But if you want a government that is an expert on expanding bloat then we have the right side in. This needs a step up to the big time though, be interesting to see if they can lift their game.

Why do government bonds need liquidity support? I read this as bonds are not raising enough funds because their yields are below market, so RBNZ is buying these overpriced bonds. Did I miss anything?

Have a Separate Kiwisaver fund for raising money and request the Kiwisaver holders to contribute to that. Pay a fixed return on the fund and may be give tax breaks too.

However Treasury raises money, whether Options 1,2 or 3, the raising is against future tax receipts via Government policy.
Unless the economy is productively expanded, any debt raised from any funding process is an exercise in futility.
We have to make more, grow more and export more for taxes to repay national debt. And we know what the time honoured way to do that is, don't we....import more people. The option of being more productive with what we already have is in the too hard basket.

import people, hope not bw. where are the jobs. where is the extra capacity in the health system, where is the housing. where are the reserves in ACC & Social Welfare, where is the surplus in the universal super, where is there spare space in the schools. Better to make better hay with what we have got already, sunshine or no sunshine.

No argument from me on that score. But....that (importing people to consume)....is exactly what we've done for decades now and I just don't see anyone with the spine to change course now.
However.....if ever it was going to happen, it's now; when we have the borders closed and keep them closed for an extended time for fear of reinfecting the economy, if we manage to purge Covid19.

Yes all on board with all of that. One of the big reasons Brexit succeeded was the unease if not desperation of the North in opposing immigration.
Now is NZ’s time surely. We have to look after what we have got, no one else will, far from it. Nationalism, populism call it what you will, but any sort of referendum would clearly reveal that is what our people want. The government(s) must listen.

JA will want to reiterate her vision of a globalist borderless world when things settle down. Let's hope immigration is one of the key issues on everyones lips coming up to the election else we are truly stuffed. If we the people can't hammer home our desire to support our own first at this time, we never will. Golden opportunity. Worth getting involved in politics this time around.

Logic for method one: ".. the yield, which will flow through to lower interest rates for borrowers. Low interest rates encourage spending and thus growth and inflation."

This is the same logic used by ECB under its QE right? Was the ECB actually successful in its strategy though?

Yes. Ad nauseum.

? What are you saying Kate

By the RBNZ helping increase demand for government bonds, this will reduce the yield, which will flow through to lower interest rates for borrowers. Low interest rates encourage spending and thus growth and inflation./em>

Got any evidence?

Indeed, they don't seem to have managed that with interest rate drops so far. Only inflating bubbles. Perhaps if Bill English had not refused the RBNZ's request for a DTI rule than it would have worked, but...that chance went by the way in favour of property inflation.

C'mon. Cut him some slack. He worked in the treasury for gods sake...
Oh me bad, I see it was only for one year after Norah pointed out he needed to widen his cv from recent graduate and farmer. So he would have been in charge of taking the coffee orders then and lining up the pencils at the end of the day....

Well done, they follow our advises.. borrow more printing more, debt more, follow the herd. You don't want to be in the world of herd club and unable to show each other the comparative ratio size & numbers, need to be stacked up! - Too big to fail, we are all on the same boat. All numbers are relative, you can say it as heavy load numbers(of heavy objects) to bring the whole boat sink .. or you can say it as lighter load numbers(of light objects) to extend the whole boat floating capability. - OR? tactical musical chair at play, some participants will get a seat, some just don't get it, in which regardless.. the don't have a seat, will not be pleased with the game.. then could be in the mood to ruin the party.

All government spending is made by creating new currency, borrowing is not used for the purpose of funding the government. As government spending creates additional bank reserves which must be lowered with bond sales to maintain the reserve banks interest rate settings. It is all explained here by economist Steven Hail. https://independentaustralia.net/politics/politics-display/modern-moneta...

I would just like to ask Shamubeel Eaqub: “What could possibly go wrong?“ Uncharted waters, first step to in without a life jacket? Didn’t we sort do that back in 1984, and look how well that ended.

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