N.Z. RESERVE BANK

Hokitika Guardian, 15 September 1933, Page 3

N.Z. RESERVE BANK

■III—CENTRAL BANKING AND THE MONETARY STANDARD.

Many people seem to have the idea that the setting-up of a central bank implies the adoption of the gold standard as a mat.er of ‘monetary policy, or, alternatively, means handing over the whole question of currency and banking to the central bank with power to act .as it thinks fit. 80-h of these ideas are mistaken. The central hank is nothing, more than a machine or device for co-ordinating and controlling the banking system tin accordance with the mone.a'y policy.as laid down by Act of Parliament. No matter what monetary system, was adopted, it could best be .given effect to through the medium of a Central institution. In fact, it .. is /being Increasingly recognised throngho.ut. the. whole civilised world .that a centra] bank is esscn.iial whatever the monetary system of the country. Parliament determines the system to he adop.'ed, but the management of that system should be nonpolitical. ■■ ■ ■

The essentials of a good monetary system .can Vie briefly stated as a stable unit of value and an efficient meihod of maintaining that value. Money evolved out of the idea of using some generally acceptable object of vahie to facilitate the exchange of goods in general, and throughout. the ages in different countries many things have served the purpose. The pound original] !y meant a pound of silver by weight. We have now reached a stage, however, when money is represented for- the most- part, by nothing more than pieces -of paper, ban.k-noies, cheques, bills, etc,, and intricate machinery to preserve its value .has become •.necessary. The value of money is; of course, the quantity of good s or serYi : ce g that ‘ can be obtained with it, and from the nature of tilings- it is .obvious that the unit of value can .never be fixed in the same hard-and-fast. way as the unit of length or weight is fixed. As we ■ know to outmost. values dp change considerably, and .for the infinite benefit of all mankind it is -to be hoped that with the advance of monetary science better .methods of preserving ‘stability of values will be evolved. Delibera e control bv a .central bank is a step in that 'direction.

To start with, however, there must be -a definite standard on which the controlling authority can base its operations. It i s for Parliament to say what that measuring-rod shall he, but as money is only a tool to fiv-i-li-tate trade, obviously the wise thing to do its to look at our particular tra-d-----ng' circumstances and choose a -basis for our monetary unit that will best suit- 'our purposes. '• . On this point it is interesting -to note th‘a; the framers of our present permanent banking ' legislation, tbe essential portions of -which ale contained for the most part in the -private Acts governing the .several hanking insiitu-; tions, evidently intended that the com- ; plete gold standard should operate, in this country. Our trading -conditions, however, jed i:ri fact to the adoption of purely -voluntary, sterling ewhange '•■vstem. The permanent statutory p"0visipns are 'for .tjie most part still suspended by war regulations, but sin’ll suspension bad no real effect, as the nroHgjon.s had always been -practically inoperative;

The principal pre-war regulative provisions provide, in effects- . i. . . (a) That-the notes (in pifculat'on shall not. exceed the . total, of the coin, bullion, iar.d public securities held in New Zealand, or more than- three -times the gold held in -New Zealand'. - (b) That the debts, - engagements, and liabilities shall not -exceed three times the coin, bullion, and public securities held lin New Zealand.

From a regulative point of view the first provision says, in ’ effect, that the note-issue .shall not exceed three times the gold -reserves. The reference to Government securities is merely to ensure -ultimate redemption of the fiduciary part of the issue in the c-asc of a, bank failure. The second- section -.is- fr*—- ’ • f o limit the credit structure that might be created by the banks. In Great Britain, of .course, -the ratio of to liabilities is governed no- by legislation, but by the traditional policy, of the hanks. In New-Zealand, however, It was apparently intended to provide by law that credit expansion through advances should not exceed three times the -amount of coin, bullion, and public securities held by the banks. Thus a high ratio of cash to liabilities was to be -maintained.

It is easily demonstrated that even in pre-war times the amount of gold held by the banks in New Zealand wa-s not, in fact, the controlling, factor-of the volume of credit and the pricelevel. For the June quarter of 1914, for i-nslance, t-he note-issue amounted to £1,700,000, whereas coin and bullion held .amounted to £5,500,000. In this instance ' the . note-issue could legally have been increased to £16,500.000, provided the required amount of Government securities had been purchased. •This possible -maximum issue would not have been advisable in practice,as gold was i’ l circulation, at that time, and could -be demanded from the banks. iStil|, the fact.that the maximum ,notejjviuo .amounted to over half the deposits (at that time about £29,000,0(101 is -a clear indication that .further credit, expansion was nqt, prevented by lack of cash resources. Further,. a .study of the published banking figures over -a period of years will show that <>«• posits and - advances have -varie-d without any apparent relationship to notes ,i n circulation or cash resources, and, in fact, in .a manner that would . be

quite inexplicable in a self-conta'ined banking sys-eru. The explanation, of course, is that our banking system is not self-contain-ed in that the banks normally hold a large amount of funds, in London. In fact these London -balances arc trie real regulative facm r ..a-nd the key to I our whole banking system. In New Zealand there is no bullioiij -market, no bill-market, or short-load I market, and generally no -money-market] in the fall sense of the term. -The all-, i important work of, our banks is financ--1 ing our external, trade,, which per head I is one of the highest, if not the high-' lest, in the world.. Furthermore, • a I very large part ..of our trade is with I Great Britain, wherein is situa-ed the premier inter-national money-market of the world. Under these circumstances,: supported by the tie s of Empire and the fact that this country has been b«r rowing steadily in Great Britain p-ac-tic-ally ever since these islands were brought under the British flag, the dominating portion of our banking business .has, centred in London. The deposits and advances which constitute the credit system of this Dominion are thus governed predominantly by the rise and fall in the aforesaid -London balances, but up to the end of 1930, at least-, the B.vstem was rendered definite and .complete o,n a voluntary basis by the uniform traditional exchange policy adopted by the .banksI This' traditional exchange policy consisted of maintaining steady, even rates of exchange, unaffected by any but very exceptional trade disturbances .For instance, \tho fates of exchange for telegraphic' transfers New Zealand on ALondon stood, at 17s 6d ]pcr conv. for at least ten ycar s ’ pridr to 1914, ' despite marked variation i-n the trade j balances between 1907 and 1911. This exchange policy w s the -real regulative factor in controlling the volume of credit, and through credit the issue ot currency in New Zealand. The rcsuU was to keep the New Zfealand pound at approximate parity with sterling. I As is now well known throughout this Dominion, ■ a decline in British prices results in a lessened yie-ld in sterling for our exports. This means so much less added to the Lor.do.n bdances of the banks, and correspondingly so much.less added to deposits in New | Zealand. With less credit available in New Zealand, there is less scope foi the purchase of imports, and less spent on imports, which means less drain on the London babnees. When ’British prices rise the effects are in the reverse direction- Wide swings in prices 1 bring' -booms and slumps alternately, and while international co-opei'ation between Governments and central banks mav. do: much, to prevent such undesirable features it- has to be recognised th t this Dominion lra s no option but to accept .fire prlecs'ruling in the British markets. In fact, the London balances ;<*jißus^ f lncrease' or decrease by “the ’ amount of the -balance of i-ntefnatlon-aupprejits," but this, of course,, does. not prevent us from taking nny/.necessary ! appropriate' action at this end to cushion the shock and spread .the loss' involved in a .heavy fall in sterling prices.. ~ All* these facts definitely -prove that t-he Zealand banking system .is operating os a sterling exchange standard. Credit is not ./controlled through ■currency, but on the contrary, the volume of. tlie., . cu-rrency .. is controlled through credit, which in turn is con-, trolled through the operation of the exchanges with .London,. Further, the hanking habit is well developed in 1 this -country, and notes and coin are definitely s usbidifFy, being required tor little beyond payment- of wages and til-l-money in the retail trade. The chief characteristics of the New Zealand banking system, may be summarised as follows : (1) 1-hat in fact the--system is. and always ha s been, a, sterling-exchange standard. oW' _ '

(2) That it has.-centred, r ?und an approximate; (fixed par of exchange between'the ’British and the New-Zea-land pound. (3) That our external trade -is cleared through London, and the London balances of the banks are the chief factor in regulating the volume of credit in New Zealand. (4) That the banking habit is strongly developed in New Zealand, and notes are very subsidiary, being ,-ased for f |Ltle beyond 'payment of wages, petty disbursements, and tillmoney. (5) That t-he legislative restrictions on the note-issue have been quite inoperative, as the demand hp.s always been considerably less than the maximum amount the banks were in a position to isssue. (6) That the volume 'of efiedit has regulated the note-issue, and not vice versa.

Throughout the war and since, t-he pre-war -sterling-exchange system was maintained wthout any fundamental change, and the rise in New .Zealand prices -which, reached the peak about 1920 and the subsequent fall in prices was not due to any. independent action taken in New Zealand, but was simply a reflex of a similar rise and fall in British export prices. , Economic facts and the traditional exchange policy- of the banks which hitherto have pursued a common policy —are at present!the only-real regulative fa-ctqrs of t-he banking system. The control, however, was not deliberate and disinterested, but wms simply evolved as the system best suited for the purpose of carrying _ on commercial banking in the Dominion. Such vital matters obviously should, not be lef; to the discretion of institutions that may at times have to. choose between tbe national interests., apd the limm'edij.to interests < {'...Their 'shareholders, who look upon t-he commercial banks-as profit-earning concerns. ObUjously the (national interests should always .prevail, and to ensure that

thi, s will be the c.se it i s essential that the control bo placed in the hands of a national institution set up ~fo/ that purpose alone. • ’ On the question of the monetary standard, (however, the experience of the past has shown that our trade is 'facilitated if our. currency is based on sterling. This being so, the onus is on those who advocate any other basi* to demonstrate that it would he more beneficial in practice, having regard to the fact that external trade and particularly trade with. Great- Britain is so important to tho Dominion. Accordingly., in the Reserve .-Dank legislation it is proposed to do nio.re than confirm the existing voluntary system and place the .administration of it in the hands of an institution specially constituted for the purpose. A sterling-exchange system simply means working on London balances instead of on a stock of gold held in the country, the rates of exchange indicating when the vgkie of our pound is rising o r falling relative to. sterling. It may be emphasised, however, that the setting-up of the Reserve Bank does not involve forcing the exchangerate back to parity. w,ilh sterling if that is not in the interests of the Dominion. ’ The commercial banks will continue to transect exchange and other banking business for their customers exactly as they do -.at present. The only irr.* Hedyttei outward change so far a.« the public are concerned will be that the commercial-bank notes will a M he replaced by Reserve Bmik notes, but later it is anticipated that considerable benefit will accrue from cheaper credit in the form of lower discount rates for agricultural bills and commercial paper generally.