Monetary Policy Tools & The RBNZ Balance Sheet

This morning saw the RBNZ release a report on why the Reserve Bank deployed the Large Scale Asset Purchases (LSAP) and Funding for Lending Programme (FLP) as part of its monetary policy response to COVID-19. It also outlined a framework for assessing the impacts of these programmes. The key messages include:

• LSAP and FLP were launched in the face of an unprecedented global economic shock caused by COVID-19. Both programmes were implemented to reduce the risk of a deep recession in which inflation, economic activity and employment could become persistently depressed.
  
• LSAP and FLP were necessary because the OCR was close to its ‘effective lower bound’ and could not go negative because commercial banks were unable to operationally manage negative interest rates at the time.
• LSAP corrected significant dysfunction in the NZD bond market and lowered long-term bond yields, which passed through to interest rates more broadly within the economy. FLP helped lower retail interest rates by providing banks with certainty of funding at a relatively low rate that was able to be passed on to borrowers.
• The return of liquidity and stability in the government bond market promoted broader financial stability in markets, enabling ‘business as usual’ activity for government and firm capital raising at reduced interest rates. Lower interest rates also contributed to higher aggregate spending, investment, employment, profits, and tax revenue in the economy. Unemployment, business failures, welfare expenditure and long-term economic scarring were all lower than otherwise.
• By using LSAP and FLP, the RBNZ was able to provide additional monetary support to New Zealanders, even though the OCR remained unchanged at 0.25%. All this was achieved in the face of extreme economic uncertainty associated with an unprecedented global pandemic.
• As economic conditions improved, asset purchases under LSAP were wound down and halted by July 2021. A gradual reduction in bond holdings was announced in February 2022, before other central banks that had deployed similar tools. The initial allocation of the FLP closed in June 2022, with an additional allocation available until December 2022, as agreed on establishment.
• The monetary stimulus currently being provided by the LSAP and FLP is small and will continue to wane through time. This modest impact can effectively be offset via the OCR. While LSAP and FLP did provide some support to bank funding and liquidity positions, there is little evidence that higher settlement cash balances resulting from these programmes have directly impacted on bank lending.
• The success of LSAP and FLP should be judged on the basis of their risk adjusted net benefits. The positive impacts of these monetary policy tools – such as supporting economic activity through the pandemic and normalising financial markets – also need to be taken into account alongside the costs of the programme.
• The OCR remains the most effective tool for managing the overall level of monetary stimulus through economic cycles. The banking system is now in a position to accommodate negative interest rates, and this will form part of the monetary policy toolkit in future.