Finance Committee on April 27th, 2010

[The Chair, Conservative, James Rajotte]

Okay.

[Ted Menzies, Conservative, Macleod, AB]

Pretty good answer there, Mr. Carney.

[Mark Carney]

We're able to grasp the overall macro impact of these measures, but....

[The Chair, Conservative, James Rajotte]

Thank you.

I think we know what the headline will be in tomorrow's financial papers.

Mr. McKay, please.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Thank you, Mr. Carney, for ending the hallelujah chorus on that very favourable note.

I, too, want to compliment the bank on its handling of the monetary side of the equation. It's a pity you didn't have support from the government on the fiscal side of the equation.

But I would like to take note personally, as has been mentioned by others, that Mr. Jenkins is usually with you. This is probably the first meeting over many years that he hasn't been with the governor, and I just wanted to say publicly what a joy he was to work with over the years. When I was on the other side he was extraordinarily helpful to me, as he was to me on this side—a very fine public servant.

You've obviously set out a window for bringing up the rates, and your words have been parsed ever so carefully by so many people. The concern I have with respect to your raising the rates as anticipated is that the window appears to be about the same time as the Governments of Ontario and British Columbia will implement the HST, which likely will have a dampening effect on the economy. The economy may well, on July 1, if that is the window, have a double hit: your raising the interest rates and the HST.

Have you given that some thought? If so, what is your reaction to that?

[Mark Carney]

Thank you very much.

I would like to add to your commendations for Paul Jenkins. He had an outstanding career serving our country and was a tremendous help to me personally, and obviously to the institution as a whole, over the course of the last couple of difficult years. I do miss him, particularly at times like this.

I do look forward to being joined by Mr. Macklem the next time we meet. He will start on Canada Day, as he fulfills his final obligations as Canada's representative on the finance side at the G20 and G8. Obviously, with the summits coming up, it's important that he supports our Prime Minister and our finance minister in that.

With respect to...what was your question again?

[Voices]

Oh, oh!

[John McKay, Liberal, Scarborough—Guildwood, ON]

We have three events on July 1: your interest rate, the HST, and Tiff Macklem.

[Mark Carney]

Okay. Got it.

And Tiff Macklem, yes. We don't anticipate any immediate impact of the arrival of Mr. Macklem.

But yes, of course, we've taken that into account. One of the things we've tried to highlight in the report is that we believe there has been a pulling forward of some economic activity, particularly in the housing sector and in some other consumption, for several reasons: one was the expiration of the home renovation tax credit and associated expenditure around that; second, anticipation of changes in interest rates; and third, the HST, on new home purchases but on other purchases as well.

So we anticipate that there will be a falling off in some of that activity in the second quarter, but most notably in the third. That is in our forecast. The question is, will it be more or less than we anticipated? We will see.

I would like to reiterate what I said at the start, though, that nothing is preordained. What we have done is taken away extraordinary guidance, exceptional guidance, unconventional guidance, about the path of interest rates, which was necessary at that time. That time is passing. We've taken it away. We are not going to provide guidance about the path of interest rates.

The extent and timing of any additional withdrawal of monetary stimulus will be a function of economic activity and the outlook for inflation in Canada. So those who are trying to divine what we might do should spend their time not parsing words, but thinking about the level of economic activity, the outlook for inflation in this economy, and where rates would appropriately be.

[The Chair, Conservative, James Rajotte]

Very briefly, Mr. McKay.

[John McKay, Liberal, Scarborough—Guildwood, ON]

As a related question, currently the banks have been raising their primes. You haven't. I think the Royal Bank has raised its prime three times, as have others.

The issue is that the Government of Canada, the people of Canada, the taxpayers of Canada, have been extraordinarily generous with the banking community. Yet when the first opportunity comes to put some space between what the Bank of Canada charges for their money and what the banks generally charge for their money, there doesn't seem to be some recognition of that.

Does that disturb you?

[Mark Carney]

I will make one point of clarification: the adjustments in rates have not been to the prime rate, but to the fixed rate mortgages of the banks, and what's relevant for the fixed rate mortgages for the banks is the funding costs fixed for the institutions.

Over the course of the last several weeks, those funding costs have gone up, for two reasons.

First, five-year government bond rates, the same as the mortgage horizon, have gone up about 40 basis points over that horizon. They've been coming off in the last few days with some market activity, but broadly speaking, that's what's happened. As well, the funding costs--the premium that banks pay above that--have risen about 15 to 20 basis points relative to that, so there has been an increase in funding costs, which gets flipped around and is passed through to the mortgage rate. We haven't seen this adjustment in prime.

Our responsibility, obviously, is to look at what people are actually paying and make a judgment of what that's going to do for their activity--and obviously inflation--and then adjust our rate relative to that.

One last point: we are obviously alert to any strains--which we do not see--in liquidity markets, as I discussed with Monsieur Paillé moments ago, or interbank markets, and to seeing whether there is a role for the bank to alleviate those strains and have an impact there as well. But as I said, we are not seeing that.

[The Chair, Conservative, James Rajotte]

Okay. Thank you.

Now we'll go to Mr. Wallace, please.

[Mike Wallace, Conservative, Burlington, ON]

I'll be quick, Mr. Chair, and I'll be splitting my time with Ms. Block.

I have one question. In 2011 the inflation strategy is up for renegotiation or discussion. I think most Canadians would be surprised that we have a strategy, but it's been in place since 1991 or so.

If you pick 2%, what's involved in that discussion? Who is involved? Is it 2% because the public can understand 2%? Why is it not 2.2% or 2.3%? How do you figure that out? I'd be interested to know. I'm sure you can't tell me in two minutes, but do your best.

[Mark Carney]

I appreciate the question and thank you for it, in part because I think it is important for Canadians to understand that there is an agreement between the Government of Canada and the Bank of Canada that sets the mandate for the institution.

We're accountable to fulfilling that mandate, but it is delegated authority from the people of Canada through the Government of Canada, and you're right: the inflation targeting regime has been in place through successive agreements since the early 1990s and does come up for renewal at the end of 2011.

Why is the mandate 2%?

First off, there is a shared recognition of the cost of inflation, and recognition that those costs of inflation are disproportionately borne by poorer Canadians and by people who have less access to sophisticated hedging products. They're distortionary--they distort investment and other activity--and they transfer wealth between savers and debtors somewhat erratically, depending on where you end up.

One definition of low, stable, predictable inflation is 2%. The goal is to have that.

In part, one of the reasons it has been chosen in the past--and we're revisiting this and have a huge research program on whether it's the right level--is that it's low enough not to enter into people's thinking when they're making economic decisions. There is a variety of ways of showing that when people do forecasting and take activity, they think that inflation of 2% is relatively low, and they can make a distinction between rises in the relative price of a good and generalized rises in price level.

The second reason is that it's far enough away from zero that, given the volatility of inflation, one would not expect to arrive where we are right now, which is at the zero lower bound, except in exceptional circumstances. When one arrives at the zero lower bound of interest rates, the options become unconventional. It becomes extraordinary guidance, it becomes quantitative easing, and it becomes credit easing.

One of the collective judgments that will have to be made is whether it's still appropriate. Have we learned anything from the conduct of policy in Canada and elsewhere at the zero lower bound that would allow the target to be lower or a different regime to be put in place? We'll have information to make that more informed judgment and think about the trade-off of having lower inflation versus maintaining the current rate.

I'm sorry, Mrs. Block, but--

[The Chair, Conservative, James Rajotte]

There's about a minute left, Mrs. Block.

[Kelly Block, Conservative, Saskatoon—Rosetown—Biggar, SK]

Okay. I'll be really quick. You made two statements in your opening remarks and in answering some questions. Early on you said that the largest risk is “getting the balance right” on fiscal policy. You also said that there is extreme importance in the handing off to the private sector.

I'm wondering if you can recap really quickly for us; I'm not sure if I'm the last questioner. What should our areas of focus should be in ensuring that those two things happen well?

[Mark Carney]

Very quickly, since you read my speech to the OEA, at the back end of that speech are references to some fairly sophisticated work the bank has done--which I'd be happy to distribute to the committee--on what happens if governments get that balance wrong.

If they don't tighten fiscal policy appropriately and global interest rates spike up and potential growth is hit, it will also ultimately hit Canada. Also, if they do it too quickly or too abruptly, because of market pressures, there's the same end result. In fact, it's a little worse.

So what's needed is a package in order to get it right. In a nutshell, that is the imbalances discussion as it currently stands, and that is why the G20 framework is important.

In terms of the hand-off in Canada, what's required is confidence in macro policy. That means having a fiscal plan and implementing it. It means that the bank does its job, and no more than that, so we have confidence that inflation is going to be low, stable, and predictable. It means making sure that our financial sector is functioning, that the reforms are appropriate and that it's not layering on too much capital. And it obviously requires, as well, a degree of confidence in the private sector in the outlook for the global economy, which unfortunately is beyond our control. But certainly, our job is to inform Canadians with our best view of where the global economy will go.

[The Chair, Conservative, James Rajotte]

Thank you.

For the final round, Mr. Mulcair, please.

[Thomas Mulcair, NDP, Outremont, QC]

We have very little time left. First of all, thank you very much for your presentation and for your way of explaining things. I am convinced that this will greatly assist those who are following our proceedings.

Let us talk about pedagogical tools. We have already had the opportunity to look at this together. You provided an excellent explanation regarding basis points, the cost of mortgages and the financing costs of the banks, that have just risen, which partly explains the increases. However, in a historical perspective vis-à-vis the Bank of Canada rates, at a level similar to that of today, mortgage rates for five-year terms are quite high at the present time.

Do you have a tool? Do you publish historical comparisons in order to study the trends? Is it something you are able to do?

[Mark Carney]

Yes, we are able to do this and we will do this, if it is what the committee requests.

[Thomas Mulcair, NDP, Outremont, QC]

That would be very helpful to us.

[Mark Carney]

Let us talk about the rate of return curve.

That slope is quite steep. Because of that, you will have a more extreme difference, historically speaking, between the overnight rate and the mortgage rate. Plus, the cost of borrowing of the institutions is a little higher in terms of the spread than you would have historically.

But your question is a fundamental one: how does it look in terms of the extremes? The easiest way to answer that is to provide the information you just asked for.

[Thomas Mulcair, NDP, Outremont, QC]

Thank you.

[The Chair, Conservative, James Rajotte]

Thank you very much, Mr. Mulcair.

Thank you very much, Mr. Carney. We certainly appreciate all of your visits here at the committee. We find them very substantive and very informative, so we look forward to your next visit here.

Colleagues, we are going to suspend for a couple of minutes, and then we will come back to deal in camera with future business.

Thank you again.

[Proceedings continue in camera]