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Australia and New Zealand got through the 2008 Global Financial Crisis (GFC) and its aftermath without increasing public debt to imprudent levels while holding their central banks’ policy interest rates at or above 2.5%.

This was not the case in the US, UK, and Europe. By 2012 their central banks’ policy interest rates ranged between 0.05% and 0.75% and their general government net financial liabilities ranged upwards from 64% of GDP, compared with 7% for New Zealand and -9% for Australia.

Heavily indebted governments have certain incentives. With the fattest cheque books in the world, they can keep interest rates low and share market prices high for as long as their public debt ratios credibly promise essentially unlimited support for investors.

This paper traces the myopic policy decisions which led to the US, UK and Europe ratcheting up their public debt and central bank balance sheets and had the effect of turning thrift and sensible investment into a mug’s game. It warns New Zealand not to go the same way without a credible plan for getting off that path.

The central concern in this research note is that this northern hemisphere impulse to keep interest rates artificially low while pumping up the public debt beyond prudent levels is a major threat to global financial stability. It is keeping the prices of financial assets – bonds and shares – artificially high.

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