Story: Prices and inflation

Page 3. Controlling inflation

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Controlling prices in the 20th century

Through the 20th century the New Zealand government made many efforts to stop prices rising.

A 1910–11 enquiry into the cost of living analysed 69 family budgets. In 1912 a royal commission investigated the rise in the cost of living. It attributed the rise to excessive increase in the money supply, and thought that could best be countered by promoting economic efficiency. In 1916 a Board of Trade was set up to control wartime price rises, but it was dismantled during a price slump in 1921–22.

Measuring prices

The first efforts to measure the overall rise in prices in New Zealand were made by J. W. McIlraith, a school inspector. His pamphlet ‘The course of prices in New Zealand’ was published in 1911. Price rises began to preoccupy governments because they affected living standards, and so from the late 1930s the government itself compiled price indices.

During the Second World War the government pursued ‘stabilisation’ policies, in which it had to approve all price and wage increases.

Prices, 1960s to 1980s

In the late 1960s and early 1970s the government experimented with income policies to control wages, and regulate prices on some essential goods. In the late 1960s there was a consumers’ campaign against rising prices. Minister of Trade and Industry Warren Freer introduced a maximum retail price scheme in 1974.

None of the government strategies were successful. Goods not available at the allowed price were sometimes available through a black market, and schemes that had weak or no powers were ineffective.

In the late 1970s high rates of inflation became normal – ‘inflation accounting’ was devised as a way of accommodating finance to inflation, rather than the other way round.

From 1982 to 1984 Minister of Finance Robert Muldoon imposed a freeze on all price and wage changes. This was designed to eliminate inflationary expectations – the widespread assumption that prices were always rising, which in turn made rises more pervasive.

It is possible that if the price and wage freeze had lasted longer – a change of government put an end to it – it might have limited inflation. But problems with the freeze became obvious. In a high-inflation environment changes in relative prices were difficult to discern – prices were frozen at an arbitrary date and relative price changes were disguised. If relative prices are unclear, resources can be allocated to where they would be less productively used, and this leads to lower economic growth.

Reserve Bank Act 1989

In the 1980s the Labour government reformed the New Zealand economy. With the passing of the Reserve Bank Act in 1989 the government aimed to match the low inflation rate of its trading partners and achieve price stability. The act made the maintenance of price stability the bank’s primary purpose. The government took responsibility for setting an inflation target, and the Reserve Bank had to use its tools to meet that target. Until December 1996 the target was a 0–2% annual increase in the consumer price index (CPI), and then it was increased to 0–3%.

The Reserve Bank’s key tool in the control of inflation was its ability to set the official cash rate (OCR), the interest rates which banks have to pay to borrow money overnight. When the Reserve Bank raised the OCR, bank interest rates rose, and eventually this led to a reduction of other household spending, and of business investment activity.

Between 2003 and 2008 the Reserve Bank set a high rate, and subsequent high interest rates in New Zealand caused international demand for New Zealand dollars, as investors sought to take advantage of high investment interest rates on offer. As a result the value of the New Zealand dollar rose. Inflation was controlled, but prices for both exports and locally produced goods sometimes became uncompetitive.

Reduced inflation

The industrialisation of China and imports of relatively cheap manufactured goods helped reduce inflation. But other major factors which had an effect on the inflation rate in the early 2000s were:

  • reduced import protections and tariffs from the late 1980s
  • deregulation of the labour market, which reduced wage pressures
  • lower personal taxes and introduction of a goods and services tax.

Competition policy also made a difference. The deregulation of industries such as taxis and air travel, and the exposure to competition of industries such as clothing manufacture and telecommunications, all helped to reduce price inflation.

However rises in government charges, such as a petrol excise tax, increased the CPI, which fed through to higher wages and were an inflationary pressure.

How to cite this page:

Adolf Stroombergen, 'Prices and inflation - Controlling inflation', Te Ara - the Encyclopedia of New Zealand, http://www.TeAra.govt.nz/en/prices-and-inflation/page-3 (accessed 25 April 2019)

Story by Adolf Stroombergen, published 11 Mar 2010