Easy money: Global liquidity and its impact on New Zealand
Households and banks need to realise that the recent period of cheap international money has been unusual and at some point is likely to revert to more normal financial conditions, Reserve Bank Governor Alan Bollard said today.
In a speech to the Wellington Chamber of Commerce, Dr Bollard said there are significant distortions in global liquidity, with savings flowing from mainly Asian and oil-producing economies to developed countries with current account deficits.
Given New Zealand's relatively high interest rates, New Zealand has attracted a disproportionate share of global liquidity in recent years, Dr Bollard said. "This has put upward pressure on the New Zealand dollar despite our relatively large current account deficit.
"Of course the inward capital flows would not have happened without a strong domestic demand for borrowing. It is New Zealand households' desire to keep investing in housing, while at the same time consuming strongly, that fuels their demand for funds," Dr Bollard said. "New Zealanders need to think about other eventualities ahead, and in some cases show less exuberance."
Monetary policy continues to work despite these distortions, but its impact has been muted as borrowers have been able to access longer-term fixed-rate mortgages driven by lower international rates than by the short-term rates affected by the Bank's Official Cash Rate (OCR).
Dr Bollard noted that the attractiveness of the New Zealand dollar for offshore investors is not just a reflection of the current level of interest rate differentials, but also investors' views regarding their sustainability.
"Recent fears sparked by a share retracement in China's share market saw investors rush to reduce positions in a range of markets. This turbulence has proved relatively contained to date, with risk appetites and markets recovering. But it does demonstrate the potential widespread impact of an increase in risk aversion and market volatility," Dr Bollard commented.
He said the Bank will continue to rely on the OCR as the primary instrument of monetary policy. Monetary policy lags have been longer in this cycle but the OCR remains a potent policy instrument.
"We are continuing to assess alternative measures that might support the OCR, working with the relevant government agencies."
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