The impact of the crisis onMonetary policy
Credit Suisse Asian Investment Conference
Hong Kong25 March 2010
Grant Spencer Reserve Bank of New Zealand
Impact of the Crisis on Monetary Policy
• Pre-crisis monetary policy
• Post-crisis monetary policy
• Role of prudential policy
The pre-crisis experience
• NZ monetary policy tighter than overseas
• Domestic impact reduced by inverse yield curve
• Pressure on exchange rate through carry trade
NZ borrowers took advantage of inverse yield curve
4.0
4.5
5.0
5.5
6.0
6.5
7.0
7.5
8.0
8.5
90 day 1y 2y 3y 4y 5y 7y 10y
US
NZ
Percent As at March 2007
NZD pressured by carry trade
Foreign holdings of NZD securities grew rapidly pre-crisis
0
10
20
30
40
50
60
70
80
Jan-93 Jan-95 Jan-97 Jan-99 Jan-01 Jan-03 Jan-05 Jan-07 Jan-09
Eurokiwi Bonds
Uridashi Bonds
Corporate Debt (Bonds and CP)
Kauris
Govt Securities
NZD (Billions) Breakdown of net outstanding NZ dollar fixed income securities held offshore
Financial Crisis
Impact of the Crisis on Monetary Policy
• Pre-crisis monetary policy
• Post-crisis monetary policy
• Role of prudential policy
Post-crisis expectation
• Price stability still the appropriate target
• Monetary policy to have more kick
• Likely to be reinforced by Prudential policy
“Flexible inflation targeting” passed the oil shock test in 2008
0
1
2
3
4
5
6
Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-090
1
2
3
4
5
6
7
8
9
Annual CPI inflation Official Cash Rate (RHS)
Annual % %
Policy Target Band
Monetary policy impact will be enhanced
• Higher bank cost of funds
• Reduced asset price expectations
• Positive yield curve
Bank funding costs up 120-130bp
2
3
4
5
6
7
8
9
Aug-07 Nov-07 Feb-08 May-08 Aug-08 Nov-08 Feb-09 May-09 Aug-09 Nov-09 Feb-10
'Extra' deposit costs (55%)
Long-term wholesale (15%)
Short-term wholesale (30%)
OCR
Indicative marginal funding costs relative to the OCR
Note: Weights assume banks are raising funds in proportion tothe existing structure of their liabilities. The compositionof funding at any particular time will vary from these weights.
Cost of funds 20-30 bps over OCR
Cost of funds 150 bps
over OCR
Percent
Pushing up lending margins over OCR
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
Pre-crisis (Aug 07) Post-crisis (Jan 10)
Floating rate - OCR
2yr mortgage rate - 2yr swap rate
Percent
Demand side factors have also reduced the “neutral” OCR level
• Lower house price inflation
• Reduced debt appetite
• Tax measures mooted on housing
NZ yield curve now positive
(borrowers have nowhere to hide)
2
3
4
5
6
7
8
90 day 180 day 1yr 2yr 3yr 4yr 5yr 7yr 10yr
Bank bill rates Swap rates
Percent
March 2007
Current
Impact of the Crisis on Monetary Policy
• Pre-crisis monetary policy
• Post-crisis monetary policy
• Role of prudential policy
Monetary policy to be reinforced by prudential
• New prudential liquidity policy a stabilising force
• RB exploring other macro-prudential options
• Caution warranted on macro-prudential
New prudential liquidity policy
Liquid assets Stable funding
• One week mismatch ratio to be met by primary liquids
• One month mismatch ratio to be met by primary and secondary liquids
• Secondary liquids include bank paper up to specified limits
• Core funding ratio: at least 65%, moving up to 75% by mid 2012
• Core funding = customer funding (weighted by deposit size) plus market funding > 1 year to maturity
(starts 1 April 2010)
Core funding ratio has been cyclical
Core funding ratio(% of loans and advances)
A cautious approach to macro-prudential
• Few realistic options for active management
• Need to keep prime purpose clear: Financial system stability
• Potential to reinforce monetary policy on up-cycle (asymmetric)
• Potential efficiency costs if pursued too aggressively
End of presentation