The Treasurer, Peter Costello, should abandon the idea of an exchange of letters between himself and the new Governor of the Reserve Bank setting low inflation as the primary target of bank policy because it would be in breach of the spirit of the Reserve Bank Act, if not its letter, and is bad in principle.
The Act provides that the board of the bank “”has power to determine the policy of the Bank” and the policy should be “”directed to the greatest advantage of the people of Australia” and be exercised in a way that “”will best contribute to: (a) the stability of the currency of Australia; (b) the maintenance of full employment in Australia; and (c) the economic prosperity and welfare of the people of Australia.”
There is nothing stated about inflation, or that inflation control is the way to full employment and prosperity. Indeed, most economists would argue that there is a delicate balancing act between inflation, employment and economic growth, and concentrating on inflation may at times adversely affect employment and growth.
Mr Costello said, “”One of the things I would like to do in the appointment of a new governor is have an exchange of letters which will set out, from the government’s point of view, the targets it would like the governor to have, and the governor, of course, by exchange of letters to agree to do that.”
Mr Costello seems to have it the wrong way around. The Reserve Bank Act provides, “”The Board shall, from time to time, inform the Government of the monetary and banking policy of the Bank.”
It does not say that the Government shall inform the bank.
It seems that Mr Costello is concerned that in future the bank will do things that the Government does not like, as has been the case in this Government’s first few months when the bank had the temerity to cut interest rates before the Budget, not after it, thereby denying the Government the chance to take political kudos for the cut.
If there is a difference of opinion between the Government and the board of the bank, the Act lays down what should happen: “”In the event of a difference of opinion between the Government and the Board whether that policy is directed to the greatest advantage of the people of Australia, the Treasurer and the Board shall endeavour to reach agreement.
“”If the Treasurer and the Board are unable to reach agreement, the Board shall forthwith furnish to the Treasurer a statement in relation to the matter in respect of which the difference of opinion has arisen.
“”The Treasurer may then submit a recommendation to the Governor-General, and the Governor-General, acting with the advice of the Federal Executive Council, may, by order, determine the policy to be adopted by the Bank. . . .
“”The Treasurer shall cause to be laid before each House of the Parliament, within 15 sitting days of that House after the Treasurer has informed the Board of the policy determined . . . a copy of the order determining the policy, a statement by the Government in relation to the matter in respect of which the difference of opinion arose; and a copy of the statement furnished to the Treasurer by the board.
The reason for these procedures is that the Parliament has created the bank, not the Executive. Parliament has given the bank a deal of independence with certain objectives.
Mr Costello’s proposal appears to override the independence of the bank with respect to setting policy by himself setting a priority inflation target which may or may not accord with the aims the bank should have under the Act. His plan is in apparent conflict with the Act.
A more charitable view was taken by the shadow treasurer, Gareth Evans, he said that the exchange of letters might amount to little more than a reaffirmation of present policy which was that the bank was to continue to act independently, in which case why bother? But if it was a fundamental reordering of priorities then it was a politically unacceptable interference in the independence of the bank. Evans was silence as to whether it was a legally unacceptable interference with the independence of the bank.
If the Government does not like the present Act, it should not attempt to circumvent it through an intimidating exchange of letters at the time of the appointment of a new governor. Rather it should seek to amend the Act, as has been done in New Zealand, to put inflation first. But there are dangers in that. Economics is such an imprecise science and conditions so unpredictable and variable, that an inflation-first policy may not always be the best policy.
Alternatively, the Government should seek to legislate to take away any pretence that the Reserve Bank is independent, and state that the bank shall be subject to whatever directions the Treasurer gives from time to time. There is some merit in this approach. After all, the Government is elected by the people, and one of its principal jobs is to run the economy in the long-term interests of the people. If it fails then it must wear the responsibility electorally.
The converse position is that the elected government cannot trusted to run a monetary policy in the long-term interests of the country because politicians will always engineer things to look good at the end of an electoral term and therefore a fully independent custodian of monetary policy is needed. There is some merit in that argument, too. However, it is countered by the fact that ultimately this sort of conduct catches up on governments.
But until either of those extremes are enacted, Mr Costello has no choice but to follow what has been laid down by the Parliament.
Given the hostile nature of the Senate, of course, it is unlikely the Government would succeed in getting a legislated change in bank priorities from overall welfare and full employment to an inflation-first policy … especially given the social-justice accent of the Opposition, Greens and Democrats.
Once again, the Government is facing the fact that power in Australia resides in several places … the legislature, the states, the High Court, statutory authorities, to name a few. It does not come solely from the Executive which can dictate it by exchange of letter.