Monetary policy to the rescue?

In early May 2020, the Reserve Bank of New Zealand (RBNZ) introduced a limited Funding for Lending Programme (FLP) that would run from 26 May through to 29 October 2020, and would provide commercial banks with three year loans at 0.25 percent interest in order to support the governments Business Finance Guarantee Scheme (BFGS). The BFGS supported the provision of loans to small and medium businesses of up to $5 million, from commercial banks and the Nelson Building Society, in order to provide these businesses with credit for cash flow, capital assets or projects, related to, responding to, or recovering from the impacts of COVID-19.

Will the expanded FLP announced in August by the RBNZ, and expected to be operational before the end of 2020, really increase consumption within the economy, as well as investment? And will this programme achieve the growth in employment and inflation the RBNZ is looking for to fulfil its current mandate?

While details of the FLP are currently not fully known, an expanded FLP that provides commercial banks with long-term cheap funding, enabling them to provide cheaper loans to both households and businesses, will lower borrowing costs for both. In order for the RBNZ to meet its mandate it needs households to use the lower housing costs to increase their consumption, so increasing employment. However, it is uncertain in my opinion if households will do this in sufficient numbers, given the current uncertainty around the COVID-19 pandemic. Or if they will instead increase their savings (despite the very low interest rates on saving, enabled by the FLP), and debt payments. This would reduce the impact of cheaper lending to households on the economy.

At the same time the RBNZ needs businesses to access this cheaper funding and undertake capital investment to expand their services and/or production, and therefore create more employment. Again it is uncertain, even with the availability of cheaper funding, enough businesses are in the position to use that funding to invest in additional capital required to generate more employment. This is because, while cheaper funding may enable some businesses with capital projects already planned to go ahead with their investments, the availability of cheaper funding in itself does not cause businesses to generate capital projects requiring that funding. And even if the business is able to invest in additional capital, there is a risk that this capital investment will be in technologies that will replace labour, resulting in no additional employment. An example of this would be in the horticulture industry, were businesses are looking at investing in robotic picking machines as a response to potential labour shortages.

The proposed expanded FLP appears to be targeted more broadly to include larger businesses and households, rather than just small and medium businesses, though details of the proposed scheme will not be made available publically until 11 November 2020. The possible inclusion of households in the scheme would enable commercial banks to offer households even lower mortgage interest rates, with the aim of enabling households to lower their housing costs and therefore increase their consumption, fuelling increased activity in the economy. In addition the inclusion of larger business and the lifting of restrictions on small and medium enterprises could see increases in capital investment from these businesses, due to lower funding costs.

Recently, both the Reserve Bank of Australia (RBA) and the Bank of England have introduced term funding facilities in order to provide commercial banks with long-term low-cost funding. Both of these schemes are similar to the one already being operated by the RBNZ, where the schemes target small and medium businesses. The one exception to this is for the RBA which has stronger incentives for small and medium business lending, but does allow lending to all businesses. Currently the RBA is lending through the scheme at 0.25 percent interest, the same as the RBNZ. The Bank of England is lending at zero percent interest if the bank maintains or increases net lending and 0.25 percent interest if they do not.