Finance Committee on April 28th, 2009

[The Chair, Conservative, James Rajotte]

Thank you, Mr. McKay.

Mr. Laforest.

[Jean-Yves Laforest, Bloc, Saint-Maurice—Champlain, QC]

Thank you, Mr. Chairman.

In the same line of thinking, Mr. Carney, a few years earlier, no one had foreseen the present crisis.

Mr. Duguay told the Finance Committee, in response to a question that I asked him, whether the Bank of Canada had issued warnings about the toxic nature of commercial paper, that, yes, that had been done in your financial review in 2005.

Currently, virtually everyone in the financial field is definitely working to get out of this crisis as soon as possible. However, in light of past experience, do you think there is something that you could have or should have done, using the power that the Bank of Canada holds, and that you did not do? If so, will you correct matters and try to prevent a crisis such as the one we are going through right now from reoccurring in future?

[Mark Carney]

Let me make two points in that regard.

First, as Monsieur Duguay mentioned, the bank did warn about the problems in Canadian asset-backed commercial paper in both 2005 and I believe 2007, and quite clearly deux fois, I believe.

The second thing is what we could have done further to address the issues. First, I would say that from the overall crisis perspective, as Mr. McKay referenced, we did not have a self-generated crisis beyond ABCP, non-bank ABCP in Canada. So that's not there.

But if you look at it going forward—as currently constituted, what's the role of the bank?—the bank can do analysis, can do exhortation, private and public, for others to adjust if we believe there are issues, and we work closely with our partners. But in terms of direct levers beyond our oversight responsibility for the payment system, which is important but very technical, we do not have those direct levers, and our object in the conduct of monetary policy is very clearly the 2% CPI inflation target.

[Jean-Yves Laforest, Bloc, Saint-Maurice—Champlain, QC]

And for the future?

[Mark Carney]

For the future, we are now building our expertise on analysis and the search for financial stability. We are working closely with our federal partners on regulation concerning the major issues and we are taking part in the efforts of the G7, G20 and IMF on a global scale.

[Jean-Yves Laforest, Bloc, Saint-Maurice—Champlain, QC]

Ultimately, you're telling me that you could have done virtually nothing more than issue the warnings that you gave concerning commercial paper because there is no crisis here, but we are experiencing it.

Nevertheless, for the future, are you able to ask yourself whether you could conduct an analysis, make forecasts or establish corrective measures or procedures for us to protect ourselves even more?

[Mark Carney]

Yes.

Our direct powers on these issues are limited, which was the question from Mr. McKay. So our influence is through analysis, research, exhortation, but as currently constituted, we have limited direct responsibilities in this area.

[The Chair, Conservative, James Rajotte]

Okay.

Thank you, Mr. Laforest.

We'll go to Mr. Wallace, please.

[Mike Wallace, Conservative, Burlington, ON]

Thank you, Chair, and thank you, gentlemen, for joining us today.

You're going to give me a little bit of education here. Reading through your report, on pages 12 and 13 we talk about potential output of the economy. I'm just looking at the sentence, “trend labour productivity is related mainly to the amount of capital per worker”—which I think is probably measurable—“and the pace of technological change”, and I don't know how you even measure that. I'm seeing the potential output and some small potential growth slowly coming back in 2009, 2010, and 2011. Then on the next page I have the pressures on the capacity of the economy.

Are we talking about the exact same thing, or are they two different concepts? Am I missing something on the difference between potential output and the economic capacity?

[Paul Jenkins]

No, indeed, they are directly linked. The box you referred to is a box that discusses some of the implications for the trend growth of the economy, the potential growth for the economy, as a result of some of the structural changes that are taking place.

The capacity issue you raised links that level of potential relative to the actual level of demand in the economy. So if the level of demand is below what the economy could produce on a sustained basis, that would lead to disinflationary forces. On the other hand, if the level of demand were to go through that level of potential and sustain above that potential, that would lead to inflationary pressure. So you have made the correct link.

[Mike Wallace, Conservative, Burlington, ON]

Okay. So bringing this back to the real world for us in terms of what's happening from a policy perspective, I notice in the notes you talked about the automotive sector making a relatively significant impact here.

We're going to be discussing in the next few weeks whether we'll be supporting the automotive industry, at least two players, likely, in a significant way. What would be the negative or positive impact if we did not follow through and support those organizations in terms of potential input? And what's the downside for Canada?

[Mark Carney]

If I may, just so everyone's following along, you're on to an important point in that we have revised down our outlook for potential output growth, and in part it's because of the expectation of significant restructuring in key sectors such as the automotive sector. Basically, as capacity has idled, we lose production capacity, and as investments are delayed, we don't build new production capacity.

It's an important enough sector, so the relative success of any restructuring efforts will directly impact our potential output growth in Canada, the speed limit of our economy, if you will, and then have an implication as you move over the page for pressures on capacity.

[Mike Wallace, Conservative, Burlington, ON]

That modelling you have now, in here, is under the assumption that the automotive capacity that exists today in Canada will stay. Or are you already indicating that there may be some shrinkage in that to begin with?

[Mark Carney]

I would like to generalize it so as not to prejudice any discussions, but the adjustment to our potential output does reflect an expectation that in the manufacturing sector significant capacity will be reduced.

[Mike Wallace, Conservative, Burlington, ON]

I have only one minute left. I will just say that I also very much appreciated the part of the framework for the monetary policy on low interest rates, for me to try to understand what's going on.

The Canadian Bankers Association sent out a very good piece. I just want to make sure it's accurate. They talk about how 1% of their borrowing, as they call it, is based on the rate that you put out overnight. For the overnight money, it's about 1%. But the actual fact is that they get the rest of their money from other parts of the marketplace in terms of being able to re-lend that money out to their customers. Considering that, you have here this long-term money that people base their interest rates on. Are they accurate in how the actual banking system works? There's confusion for people in my riding about how--

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Wallace.

[Mike Wallace, Conservative, Burlington, ON]

--if the bank's rate is at 0.25%, why isn't everybody else at prime plus 1% or prime plus 2%?

[Mark Carney]

I'll answer very quickly. There is a broad range of sources for bank funding, including deposits, the BA market, longer-term bonds, and the IMP program of the government.

What's important to recognize as well is that those costs and those spreads went up quite sharply in the fall with the crisis; they have been coming down quite considerably since the turn of the year, which is part of the implication for it. Monetary policy changes are now being passed on, including to bank funding costs and further out into the economy. I'll just give you one data point, which is, as you probably are aware, that the variable rate for mortgages now is 3%.

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Wallace.

We'll go to Mr. Pacetti, please.

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

Thank you, Mr. Chairman.

Thank you, Mr. Carney and Mr. Jenkins.

My question is more on the fact that you've been here over the last couple of years, and every couple of months we talk about something different and your priorities sort of differ. If I recall, probably a year or a year and a half ago, we talked about productivity and what the bank was going to do in terms of increasing productivity.

Mr. Jenkins, I think with Mr. Dodge you were talking about different tools you had available to increase productivity and the different aspects and areas you were going to look at. About a year ago, we talked about growth and whether we were going to be in a deficit position or not, maybe even six or eight months ago.

With the monetary policy you have today, what is your goal? Are we attacking...what are we trying to achieve? Inflation? Deflation? Are we trying to increase growth? What is the primary objective of our monetary policy today? I'm hearing a lot of different things. I know I'm not asking for an easy answer, but you're going to have to try your best.

[Mark Carney]

Look, I think the bank--and I will take the liberty of speaking for my predecessor as well--has always been focused on its 2% inflation target. That's the objective. All these factors, whether it's the speed rate of the economy, the influence by productivity, or whether it's the exchange rate, commodity prices, financial conditions, a variety of things, they matter in the conduct of monetary policy for their impact on inflation, and monetary policy is adjusted to achieve that 2% total CPI inflation target.

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

So you'd be willing to give something up as long as inflation would be in line? I'm trying to generalize. At what point does the bank make a decision? Again, I know it's not in your control, but last week, for example, you cut your overnight lending rate, and the dollar and the bond yields went up. The last time you cut rates, I don't think anything moved; I think the dollar went in the other direction.

So can you really tell how you're going to affect the market--if we talk about the market or bond yields--or are you just hoping? I'm looking at what you have left to play with. In terms of interest rates, there's very little. I know you've talked about quantitative easing and credit easing. That's going to be my next question. Are we going to use the next levers that you have at your disposal?

[Mark Carney]

I want to clarify that the impact of our decision last week was to improve financial conditions. Corporate bond yields as a whole went down 14 basis points; the curve out to one year went flat to 25 basis points, taking out between 10 and 20 basis points, depending on the maturity. The Government of Canada is again, out to one year, down 17 basis points. In fact, the spread between Canada and the United States shifted by 19 basis points in our favour at the short end.

We had a big impact, as we expected we would, on a broad range of financial conditions, and to anticipate your next question—

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

That's what I'm saying. On the last announcement, you really did affect the bond yields, but with the previous announcement prior to that, when you cut the interest rates by a good half-point or three-quarter-point--I don't have the numbers--barely anything registered.

[Mark Carney]

The curve as a whole has, at the short end, come in since the start of the year, since January, which has had an impact, and we've had pass-through both into the prime rate, into bankers' acceptances, which are very important short-term financing for corporations, and into mortgages steadily, as we've gone through this year.

We have been getting this pass-through, as referenced in the earlier question about overall financing costs for banks.