Money: past and future

On Monday 10 July 1967 New Zealand adopted decimal currency. Presumably the government chose a Monday because in those days shops in only a few areas were open on Saturdays and almost all shops and other businesses were closed on Sundays.  Nothing else very significant seems to have happened in the world that day, and no one very famous was born on it.    We adopted decimal currency a year after Australia did and four years before the United Kingdom did.

But of course the dollar isn’t what it used to be.   Here is a chart of the purchasing power of $100, based in June quarter of 1967.   By 1975, purchasing power had halved (prices doubled), by 1980 it had halved again, and even since the current Reserve Bank Act was passed in December 1989, mandating the Reserve Bank to achieve and maintain a stable general level of prices, consumer prices have increased by 76 per cent.   $100 today purchases what $5.60 purchased in 1967.

So much for price stability.   As I was typing this I noticed that the Reserve Bank had put out a press releaseto mark the 50th anniversary.  The Governor notes

“This milestone is a great opportunity to reflect on a point in time and see how our banking has evolved and how our money has changed over the years.

Perhaps also an opportunity to reflect on the declining value of that money?

Of course, shifting to decimal currency itself didn’t materially alter the average inflation rate.  What did that was the establishment of the Reserve Bank itself in 1934 (at which point private issuance of banknotes was also outlawed).

Prior to the creation of the Reserve Bank, the price level tended to be quite stable over long periods of time (but rather less so in the short-term).

There are good reasons for having a Reserve Bank (although the case is less overridingly compelling than the advocates sometimes claim), but it is worth being aware of what was lost when central banks and fiat money replaced earlier systems.   We lost, for example, any sense that money today will be worth roughly what it was in your grandparents’ time and what it will be in your grandchildrens’ time.  Does it matter?   On the one hand, we don’t mess around with, say, weights and measures that way.  A metre is what it was generations ago, and what it will be generations hence.   Weights and measures are social conventions too.    A reasonable counter is that very few people, other than governments, enter into long-term nominal contracts, but that might be partly because the future price level is so uncertain, while the future length of a metre isn’t.   In practice, there seem to be wider economic advantages in some circumstances is being able to generate unexpected changes in the price level (and alter the exchange rate), but whether they are worth the costs –  including the mismanagement by governments and central banks at other times –  is worth reflecting on from time to time.

When governments monopolised note issue (through the Reserve Bank) we also lost the opportunities for competitive innovation in hand-to-hand payments media, and left ourselves reliant on monopoly government suppliers.  Those sorts of suppliers usually don’t do a particularly good job in providing high quality goods and services in other areas of commerce, and it isn’t clear why we should expect much different in banking.  The state doesn’t monopolise the issuance of electronic payments media, and look at the innovation we’ve seen there.

Regrettable (and unnecessary, even if you wanted a central bank) as the statutory prohibition of private banknotes is, one might have supposed it was becoming increasingly less relevant.   If it is true in some countries, it isn’t here.  Here is a chart of the value of bank notes held by the public as a per cent of GDP.

If bank notes are now being used for a smaller proportion of (licit) transactions, perhaps they are still being heavily used as a store of value (as the opportunity cost of holding cash has fallen, as interest rates have fallen) and for illicit transactions?

I was interested to see the outgoing Governor comment today on future prospects for physical cash.

Despite the growth in electronic payment systems, cash in circulation continues to grow and I expect cash, as a means of exchange, to be around for a long time yet.

The problem is that not only is cash becoming more popular, but we are getting nearer the point where it could either (a) become a great deal more popular indeed (if the Reserve Bank wanted to cut interest rates very much below zero),, or (b) where that option could severely limit the ability of the Reserve Bank to use monetary policy effectively in a severe downturn.  That ability is the main reason for having a Reserve Bank, and discretionary monetary policy, in the first place.

I noticed that the Governor did qualify his observation about the future of cash, noting that he expected it to be around “as a means of exchange” for a long time yet.   Did he mean to suggest it might not be around for long as a store of value?     It is the sort of the issue the Reserve Bank needs to address more extensively and openly.

The 50th anniversary of decimal currency is a good opportunity for some fun, looking back at what the country was like at the time of the changeover.    But after a few hours of looking back, it is probably rather more important for our officials –  in the Treasury and the Reserve Bank –  to be thinking hard about the constraints their statutory monopoly is coming closer to placing on our ability to use monetary policy for what is is designed for.    I’ve long favoured removing the statutory prohibition on private banks issuing bank notes.   Perhaps doing so wouldn’t come to much, but we can’t know if we keep the prohibition in place.  Perhaps they’d develop technologies combining the convenience of hand to hand currency with the potential for a variable rate of return?

But perhaps more immediately pressing now is a clear programme of work to ensure that when the next serious downturn comes we can have both the advantages of our existing physical cash as a payments medium (and even as an anonymous store of value) and the flexibility that discretionary monetary policy is supposed to have given us.  At present, we are drifting towards the rocks –  the next serious recession, whenever it happens –  with no sign that the Reserve Bank (and other relevant agencies/ministers) are taking the risks at all seriously.    It is another issue for the Reserve Bank Board to have in mind in assessing the applicants for Governor.  After all, one dimension of leadership is looking a little further ahead than other people, and charting directions.