The Reserve Bank of New Zealand Act 1989 specifies that the primary function of the Reserve Bank shall be to deliver "stability in the general level of prices." Section 9 of the Act then says that the Minister of Finance and the Governor of the Reserve Bank shall together have a separate agreement setting out specific targets for achieving and maintaining price stability. This is known as the Policy Targets Agreement (PTA).
Reserve Bank fact sheet
May 2007
The Reserve Bank of New Zealand Act 1989 specifies that the primary function of the Reserve Bank shall be to deliver "stability in the general level of prices." Section 9 of the Act then says that the Minister of Finance and the Governor of the Reserve Bank shall together have a separate agreement setting out specific targets for achieving and maintaining price stability. This is known as the Policy Targets Agreement (PTA).
A new PTA must be negotiated every time a Governor is appointed or re-appointed, but it does not have to be renegotiated when a new Minister of Finance is appointed. The Act requires that the PTA sets out specific price stability targets and that the agreement, or any changes to it, must be made public. The PTA can only be changed by agreement between the Governor and the Minister of Finance (section 9(4)). Thus, neither side can impose unilateral changes.
Note, however, that under the Reserve Bank Act the Government has the power (section 12) to override the PTA. It can do this by directing the Reserve Bank to use monetary policy for a different economic objective altogether for a 12 month period, though again it must make the instruction public. A new PTA must then be negotiated to cover the override period and another PTA must be negotiated when the override ends. In either case, if a new PTA cannot be negotiated, the Governor can be dismissed. So far, this override section has not been used.
There have been seven PTAs so far since the passage of the 1989 Act. Dr Alan Bollard and Finance Minister Michael Cullen signed the current PTA on 24 May 2007.
The PTA has four sections. The first confirms that "the Reserve Bank is required to conduct monetary policy with the goal of maintaining a stable general level in prices." It also summarises the Government’s overall economic objectives.
The second section says that the Bank’s inflation target shall be 1 to 3 per cent on average over the medium term, defined in terms of the All Groups Consumers Price Index (CPI), as published by Statistics New Zealand.
Section 3 says that when external events push inflation above or below its medium-term trend, "the Bank will respond consistent with meeting its medium-term target." This means that in that circumstance the Reserve Bank is required to get inflation back to "1 to 3 per cent on average over the medium term."
The final section describes how the Reserve Bank shall implement and be accountable for its decisions. This includes providing explanations for any inflation breaches, or projected breaches, in the Bank’s quarterly Monetary Policy Statements. The last section also says that, as it implements monetary policy to achieve price stability, the Bank "shall seek to avoid unnecessary instability in output, interest rates and the exchange rate."
Perhaps the most important feature of the PTA is that it is a public document. As a result, any attempt by a Government to use monetary policy to create a temporary surge in economic activity for electoral advantage would probably fail. This is because a public announcement that inflation was going to be higher would immediately trigger higher interest rates, offsetting the temporary stimulatory effect of any induced inflation. Prior to the 1989 Act, a government could secretly direct that monetary policy follow a particular path.
By contrast, price stability, as required by the Act and the PTA, protects the value of people’s incomes and savings. Monetary policy, in itself, can’t generate faster sustainable economic growth, but, by delivering price stability, it helps set a predictable background against which businesses and households can make the most effective decisions and by that contribute to maximising sustainable economic growth for New Zealand. As well, monetary policy aimed at price stability helps reduce boom-bust business cycles. This means when the economy falters, inflationary pressures fall and monetary conditions can be eased, which encourages the economy and employment to grow again.
The full text of the current and earlier PTAs can be viewed on the Reserve Bank’s website.
. "Reserve Bank of New Zealand." . . Reserve Bank of New Zealand. 1.31.08 <http://www.rbnz.govt.nz/>.