today are a significant advance and capable of producing complex economic simulations within minutes as to how the economy, and the path of inflation in particular, might respond to domestic and foreign - sourced disturbances, including changes to monetary policy. despite their impressive structure, however, such models are inevitably a highly stylised and simplified representation of an economy, and the complex linkages between the financial sector and the real economy are often not well represented. in essence, no economic model can capture the full complexity of economic behaviour or fully reflect key relationships, interdependencies, and driving forces in the economy. while adding judgement to the model and adjusting the model outputs can help, the simulations or scenarios produced by such models are still highly conditional on the model properties and a range of “ exogenous assumptions ”. in many respects, their value lies more in raising questions rather than delivering clear - cut answers. 13 central bankers try to acknowledge these uncertainties and the associated imprecision of policy through the nuances and conditional language that characterise their forward guidance and other policy statements. in publishing economic forecasts they make it clear – including we have seen this many times. for example : in the lead up to the argentinian debt default of 2002 argentina came to represent nearly one - quarter of the emerging market bond index. rather than requiring higher risk premiums from an increasingly leveraged borrower, investors benchmarked to the emerging market bond index felt obliged to buy at the going price. graham j ( 2014 ) “ n sync : how do countries ’ economies move together? rbnz analytical note 2014 / 04. potential output refers to the sustainable long term growth path of the economy when resources are fully employed and price stability is achieved. the output gap reflects the difference between the level of output in the economy and potential output and, as such, indicates the degree of excess capacity or capacity constraints in the economy and the implications for inflationary pressures. we regard the neutral interest rate as the policy rate consistent with the economy growing at its potential in the medium term and having inflation expectations matching the price stability objective. mcdermott, j ( 2013 ) “ the role of forecasting in monetary policy ”. speech to finsia, wellington, 15 march. bis central bankers ’ speeches through devices such as alternative scenarios, forecast ranges, and fan charts – that various economic outcomes are possible around a central projection. 4. reflections on recent monetary policy in new zealand two important changes were introduced into the september 2012 policy targets agreement (

home authority to protect the host financial system. this does not mean that we are not still considering the issues with an open mind. but at this point, we need to continue to place importance on our ability to supervise the new zealand banking system and to respond to a banking crisis in ways that enable us to protect new zealand ’ s interests without placing undue reliance on the actions of the home authorities. that said, we also recognise that the most effective response to a cross - border crisis would desirably involve close cooperation and coordination between the home and host authorities. we are therefore actively working towards the implementation of enhanced home / host supervisory and crisis response arrangements, while still retaining a strong capacity to independently manage a banking crisis. our dual aims are to maintain the capacity to protect the new zealand financial system on a stand - alone basis, while also building the framework for closer coordination between the host and home authorities. let me highlight the key features of both aspects of this approach. our supervisory tools are similar to those of a home supervisor. while we have adopted a somewhat less intrusive approach than some supervisors, we require all banks, whether foreign - owned or domestically - owned, to comply with the same basic requirements, including in respect of minimum capital adequacy, related party exposure limits, comprehensive public disclosure requirements, governance requirements, and so forth. we monitor all banks on a regular basis and consult with the senior management teams of each bank annually, again, regardless of whether they are foreignowned or domestically - owned. we also take a close interest in the parent banks of the systemically important banks in new zealand, including monitoring their financial condition and meeting with their senior management teams. in all of these areas, we have sought to dovetail our supervisory arrangements with those of the home supervisors - particularly australia - in order to keep banks ’ compliance costs relatively low and to avoid excessive operational inefficiencies for banks. we are a welcoming, but responsible, host. this approach is reflected in a range of areas, including in the approach we have taken to the prudential requirements for banks and in the way we monitor and assess banks. looking forward, we see scope for further dovetailing of this nature in the context of closer coordination between the new zealand and australian authorities. however, the dominance of foreign banks in the new zealand banking system has resulted in some additional supervisory measures being taken to ensure that the interests of the new zealand financial system can be protected. by and