The Reserve Bank raising the official cash rate to drive up the cost of borrowing, to create a recession to control inflation is stupid because it is a blunt instrument that falls most heavily on low and middle class people. It does not fall the hardest on the wealthy. It’s designed that way. Designed.
This technique to control inflation is a neo-liberal beat up on the working and middle class. Its champion was Paul Volcker of the US Federal Reserve under Ronald Reagan. This is really where this technique started. To be concerned about inflation is one thing but to celebrate Mr Orr beating up lower and middle class people raises a question over the level of economic knowledge, or a twisted understanding of it, or some insight that people choose not to share in their writing.
The OCR costs are simply passed on by banks in interest rate rises on their loans. The lower class mostly have loans through hire purpose of household items, or cars; if they can get loans. The middle class have mortgages. The things these groups buy are generally essentials for living. They can’t get out of these loans. If interest rates go up they have to keep paying the loans so they have to make drastic cuts elsewhere. Note; the lower and middle class do have children.
But worse. The wealthiest, like the banks, and then the large companies, just simple raise their prices to cover this extra cost. The pricing process has no restraint on raising pricing, and the OCR moving up is a clear signal to the supply side of the economy to simply raise their prices (that is the signal it is deliberately sending). It’s harder for smaller business to simply raise their prices because they tend to be selling in the discretionary expenditure category where demand is elastic, as people get squeezed they stop spending.
Large firms have generally positioned themselves in the utilities where demand is in-elastic; or they have economies of scale so they can carry lower prices and drive out smaller businesses – who by contrast with rising interest costs tend to have to raise their prices. So interest rate rises favour large businesses and encourage a centralisation of the economy into large businesses. So media should stop the bullshit neo-liberal propaganda about high interest rates being good because it fights inflation.
I’ve already written about how to increase tax to pay for scraping GST. This gets rid of GST, a regressive neo-liberal tax and getting rid of it in theory would reduce inflation, prices down by 15%. The problem is large business in particular will raise prices to cover for paying more tax.
So actions need to be taken to stop this second wave of inflation. And I’ve previously written on some options to do this. I’ll send out another note on Germany, Japan and USA experiences which could indicate a different path forward.
The Fed can’t stop printing because they insist on bailing out the huge number of bad debts, instead of writing them off or letting them fail. The rest of the world doesn’t want to hold this increasingly worthless paper, and is trying to get out (e.g. the new B.R.I.C.S reserve currency).
We have to ask why Volker was forced to hike rates to 20% in the first place, and why the inflation (i.e. the explosion in the supply of paper currency) never really stopped.
In 1970, the U.S. was bankrupting itself by wasting enormous amounts of money on an imperial war in Vietnam. This was immediately after large costs from the Space Programme and the Great Society schemes.
Other countries suspected that the U.S. was becoming insolvent. Instead of holding paper dollars, they all started to demand their notes be cashed in for the underlying bullion at the Fed.
This ‘run on the bank’ would prove those suspicions correct: in 1971, the U.S. defaulted — Nixon ‘temporarily closed’ the gold window (but not before the French Navy had sent a frigate to New York, demanding they ‘pick up the gold’!)
This kicked off the calamitous collapse in real wages, as the Fed was forced to devalue the dollar — printing paper currency to bail out the government (who refused to balance the books).
That ‘temporary closure’ is still in force 50 years later. Since then the bail out has extended to private companies, many of whom would also be insolvent if interest rates were normalised. Excluding a few small and brief rallies, real wages (priced in bullion) have not risen since.
GST is not really inflationary, pretty much by definition, unless the RATE of GST is increased. As long as the RATE remains the same any increase, in the AMOUNT of inflation, is dependent on an increase in the underlying price.
This is how I I have seen our economic problems Stephen.
The Reserve Bank raising the official cash rate to drive up the cost of borrowing, to create a recession to control inflation is stupid because it is a blunt instrument that falls most heavily on low and middle class people. It does not fall the hardest on the wealthy. It’s designed that way. Designed.
Thanks to Kristoff R for some interesting thoughts and information re our concerns and maybe he has a doorway into the back of economists’ brains.
The whole point of the OCR is that the banks pass on the costs to their consumers. It is not intended that banks absorb the cost. The idea being the higher interest costs for borrowers will reduce demand in the economy. Borrowers of all kinds, homeowners, businesses, credit card holders, etc will reduce their expenditure since they now have to pay more interest. Businesses that increase their prices, assuming they can also reduce demand. The same amount of goods now costs more.
The reduction in demand in the economy then reduces inflationary pressure.
Increasing the OCR also has the effect of advantaging savers, This also reduces demand in the economy, as those able to save, increase their savings rather than spending the money in the economy.
I don’t really get the point of these articles. I understand you are strongly against the free market hence the railing against “neo-liberalism”, but it is not as if you have a different method of reducing inflation.
The OCR mechanism, has over the last 35 years been a powerful tool to defeat inflation. For almost all that time inflation has been relatively low, after two and half decade of very high inflation from the mid 1960’s to the early 1990’s.
I appreciate you might have a different view, but I vastly prefer the economy we have today o the stultified economy that existed up to 1984. I know that it isis a mantra for the left (those who are left of the mid point of Labour) that neo-liberalism has destroyed living standards in ew Zealand. However, when I recall what is was like during the 1960’s through to 1984, it is clear we have much more opportunity and choices.
The major blight is the proliferation of gangs, now into their third or fourth generation, and an enormous blight on the prospects of children who experience life among gangs and associates. These children number in the tens of thousands. Now you might say gangs are product of neo-liberalism. They are not.
As a young lawyer, I was defending gang members in the late 1970’s, including those involved in an enormous gang fight in Glen Innes in 1979. The young criminals of today are the grandchildren of those gang members. Solving the issue of gangs will do more for many young people than anything else we could imagine.
Be very interested in where this ‘free market’ exists.
Globalisation fuelled by Reagan,Thatcher,and Douglas has created huge inequalities and the replacement of real productivity with financial ‘products’ that lead to the 2008 American Financial Crisis.
The effects are being felt today…with unaffordable housing,huge emigration pressures on exploited countries ,and ludicrous international indebtedness.
NZ was one of the richest countries in the world in the 50’s and 60’s.
The U.S economy and standard of living was highest when they had the Gold Standard and tax rates of 80% plus.
Eisenhower’s warning about the Military/Industrial complex has never been addressed and today we are on the brink of nuclear war.
As for GST…as far as the rich go….they win..regardless.
Sounds like a good idea- if combined with price controls to stop profiteers simply keeping their new prices the same as the previous GST-included prices.
You may be too young to have experienced Muldoon’s era of price control but it was a disaster and when it eventually came off prices shot up businesses closed and unemployment was out of control that why he lost the next election. When the government intervenes
Muldoon installed wage and price controls. He should have controlled price controls only, and let wages and salaries find their own levels.
The likelihood is that a 15 percent rate of GST is here to stay, it won’t likely get scrapped or be reduced to 12.5 percent or 10 percent.
The inflation is due in large part to overheated financial markets such as the property sector and, to a lesser degree, shares. There is an inflated value on gold, too, for example. The retail sector, everyday items such as groceries and petrol, are more expensive now but they are not driving inflation upwards.
This is where a financial transactions tax, or a wealth tax, or a capital gains tax would come into play.
If GST was removed prices would not fall by 15%. First, a reduction in the GST inclusive by removing GST of 15% is a 13.04% reduction in price, assuming it is fully passed on. Secondly, not all goods and services are subject to GST. When GST was introduced and subsequently increased the inflationary impact was around .65 per percent.
Scrap GST!
That’s a third of government revenue gone, so where do we want to make cuts?
I suggest we start in Wellington. The 4,000 staff (doing what exactly?!) in the Ministry of Education.
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