Finance Committee on April 27th, 2010

[The Chair, Conservative, James Rajotte]

Merci.

Thank you very much.

I am going to take the next round as the chair.

Mr. Carney, I did want to talk to you about the dollar. You discuss it in your report on pages 19, 20, and 21.

The common perception, especially when the dollar rapidly appreciated in recent times, was that it was driven by petroleum prices—driven by the price of crude, mainly—but you discuss energy prices and talk about prices for non-energy commodities increasing. Then you talk about global credit conditions. Obviously, I think, the state of the U.S. dollar would have an impact there as well.

Is it your view that petroleum or the price of crude is not as large an influence on the price of the dollar as it was, say, a year or two ago?

[Mark Carney]

Well, one hesitates to be too precise about short-term movements in currencies, so I will not be. The level of our dollar is a product of numerous factors: our relative economic performance, relative fiscal position, the terms of trade. This is much broader, as you're suggesting, Chair, than just the price of oil. It bears reminding that the natural gas exports of this country are at least equal to or, depending on the day price of natural gas, in fact larger than our oil exports, and a huge source of investment in this economy as well. So it's a variety of factors on the terms of trade.

I would say that persistent strength in the Canadian dollar is a risk, an important...we've only identified two major downside risks to the Canadian outlook and the dollar is the first. It's something we watch closely. It could have an important influence both on economic activity and on the outlook for inflation, and the bank will set policy appropriately in those circumstances.

[The Chair, Conservative, James Rajotte]

So it's one of two. The second factor is the concern about economic activity in the U.S., if I'm correct.

[Mark Carney]

Well, on the outlook in the United States, the United States remains a reserve currency, at a minimum, and the outlook in the United States in relative terms, globally amongst industrialized countries, is improving. Certainly, we've highlighted in the report the importance of the hand-off, if you will, to the private sector later this year and into 2011 in the United States. It's a substantial acceleration in private activity that is consistent with our projection. It remains to be seen how well it will progress.

But there has been a strengthening of the U.S. economy and, in relative terms, I think the U.S. economy is doing better than had been expected by many participants in recent months.

[The Chair, Conservative, James Rajotte]

On page 21, you mention a concern about U.S. economic activity and then the higher value assumed for the Canadian dollar.

In the past, I think that both you and the finance minister have made an effort, in a sense, to talk down the dollar, especially when it was rapidly appreciating. That works for a time; I think it probably works less effectively over time.

Is there any concern about lesser tools available to you if the dollar continues to appreciate?

[Mark Carney]

Thank you.

Markets sometimes overshoot. We should be conscious of that. For those reasons, the bank, in agreement with the Minister of Finance, has additional tools to address those situations, and no one should be under any illusions that we wouldn't use them if it were appropriate.

[The Chair, Conservative, James Rajotte]

Here is one final question. There's obviously a lot of discussion, both in this country and around the world, about being too big to fail; if it's too big to fail, it's too big. Some of my friends, even on this committee, suggest that in the past policy decisions were rightly made by not allowing certain institutions to merge or grow larger. Yet my contention is that perhaps it's not the size of an institution like a bank; perhaps it has more to do with the capital requirements or the reserves.

I'm wondering whether you have a perspective with respect to how it's perhaps not the size of a financial institution but in fact the level of reserves or capital requirements that ensures the stability of the institution over time.

[Mark Carney]

Well, that is true, in that higher capital, better capital, better liquidity management, and higher liquidity actually carried on the books are all factors that will reduce the probability of failure of individual institutions and collectively will improve the resilience of the system.

The other factor, which is important to consider, is the interconnectedness of institutions. Do they hold each other's bonds? Are they big counterparties with each other? How related are institutions? Because the contagion effect of one institution going down....

I would point out—you know this, but it bears remembering—that Bear Stearns was the sixth largest investment bank in the United States, so not a big investment bank, but the sixth largest. It was the determination of the U.S. authorities that it was too big, or rather too interconnected, to fail, which is why they took steps to engineer an orderly rescue of that firm. I must say, based on what I know and understand of the situation--and understood at the time--that this was the right decision.

So one has to attack as well these interconnections as part of financial reform, so that an individual institution can be separated, if you will, from the system if it has failed.

[The Chair, Conservative, James Rajotte]

Thank you.

Mr. McCallum, please.

[John McCallum, Liberal, Markham—Unionville, ON]

Let me return to the bank tax issue or the transactions tax for a moment. I think I've indicated my position. I've heard numbers such as several hundred billions of dollars per year that could be earned from a small tax on transactions, whether foreign exchange transactions or, somehow, a broader set of transactions. I've been thinking about this, and the implication seems to be that this would be somehow painless.

My question has to do with two things: one, the reaction of financial institutions; and two, the incidence.

On the reaction, having worked for a bank, and you having worked for something similar—

[Voices]

Oh, oh!

[John McCallum, Liberal, Markham—Unionville, ON]

--my thought is that there would be huge change in trading patterns, so that instead of trading volumes reducing by 40%, for all I know it might be 90%. I don't know what it would be, but it seems to me that one can't just calculate revenues on the basis of existing trading patterns pre-tax. That's the first question.

Second, I think that when you're talking about hundreds of billions of dollars someone has to pay. I can imagine people going to the United States on holiday, or people buying mortgages, or people getting loans, or.... Or is it somehow going to be limited to speculators paying?

I'd like to ask you what you think on these two subjects of incidence and the reaction of financial institutions, which would affect the revenue.

[Mark Carney]

I think you're absolutely right on both points—and you agreed with me earlier, so now we're even—but one of the reactions in particular to worry about is maybe not just the level of activity. These calculations assume that there's the same level of activity and that you just strip out a cost. There will be a reaction to it, which in many respects should be the point. I mean, the issue should be the externality that comes from that activity.

But the other reaction that concerns us is the practicality of having everybody sign up to the same transaction tax. Because the one reaction you can expect is that the activity will migrate to those jurisdictions that don't track the transactions, so the proceeds will be greatly reduced.

Now, vis-à-vis the incidence, it is likely to fall on the end borrower, very clearly, not just—obviously importantly—individuals who are doing foreign exchange transactions for normal activities, such as going across the border to visit friends and family, but commercial borrowers and households. So it should be passed net through, and with respect to a Tobin tax or a financial transaction tax of the IMF, that is the conclusion; that's the one tax they didn't recommend to the G20 this past weekend.

There is a more general point, though, which is that while we are of the view that higher capital is required for the system, and it is—globally the system was under-capitalized—that capital has to earn a return as well, as you well know, and the effect of higher capital and tighter liquidity standards will be some increase in the cost of capital, not just to the institution itself, but to the end borrowers from those institutions. That can be seen through the longer spectrum of wild swings in the level of capital, huge fiscal costs that are incurred by all of us to address these crisis situations, and a greater level of stability.

Also, finally, speaking to the judgment that in the years just prior to the crisis, the cost of capital or of borrowing, because we had a bubble—

[John McCallum, Liberal, Markham—Unionville, ON]

I'm told I have 30 seconds.

[Mark Carney]

It was too low.

[John McCallum, Liberal, Markham—Unionville, ON]

I want to ask one last quick question.

I think the IMF has gone back to the drawing board. Are they going to come forward with alternative proposals for such taxes?

[Mark Carney]

Yes, they would have to, certainly. We made a number of points and there was pretty strong agreement.

But the core agenda, as we've been talking about a bit, is capital, liquidity, and interconnectedness, and we have to make progress on that core agenda. You should hold us to account to make progress on that core agenda by November. Then, once you see what those measures are, what the expected impact would be, the question will be, is more required?

Also, for the IMF, if you're thinking layering a tax on top—and not very many people are—you had better have calculated the net impact of extra capital, extra liquidity, and other measures that are put on the financial sector and ultimately passed through to the real economy.

[John McCallum, Liberal, Markham—Unionville, ON]

Thank you.

[The Chair, Conservative, James Rajotte]

Thank you.

We'll go to Mr. Menzies now.

[Ted Menzies, Conservative, Macleod, AB]

Thank you, Mr. Chair.

I appreciate Governor Carney being here today.

We appreciate your articulate answers. You usually get a grilling when you come here, so I'm going to change the channel a little bit. I'm going to ask people to think back to where we were 12 or 18 months ago. We need to recognize the role that you and your staff or your deputies played, as well as the finance minister, and where we could have been.

I still don't have a grasp of all of the role that the bank played. I pretty well understand the role that our finance minister played in keeping Canada stable and in making some of the right decisions. I know that you were a party to it. I don't know how much of it you can share with us. Most Canadians don't understand the role we have played, and I think it was exemplified this weekend in the fact that, with your assistance, the finance minister was able at the G8 and G20 discussions to turn around things that would have been hugely damning to the Canadian taxpayers. I think we all know that there's only one taxpayer in this country--you and I--and any tax on a financial institution would be quickly passed on to us. Just a quick comment on that, please.

Then I'll ask you for one quick explanation, if you could. We've had one individual from this committee stand up in question period and ask about the home renovation tax credit and why people who didn't pay taxes didn't get any money. Can you just very quickly explain how a tax credit works?

[Voices]

Oh, oh!

[The Chair, Conservative, James Rajotte]

Order. Mr. Carney has the floor.

[Ted Menzies, Conservative, Macleod, AB]

Go ahead, Mr. Carney.

[Mark Carney]

Okay. Well, first off, thanks for those kind words.

At the depths of the crisis, there were some very difficult decisions that had to be taken, certainly internationally and in Canada. The history will ultimately be written, but because of our relatively better position I think we were able to assist in helping others make the right decisions, if you will, internationally, and I think importantly in October 2008 to get agreement at the G7 level--which really turned it around--that we would take some difficult decisions in terms of providing more explicit support for institutions, by way of liquidity and backstopping, to put a floor under the crisis.

I think it was helpful in that situation for the Minister of Finance, supported by me, to say that even though we don't have to, we will, and to help others represented.... We clearly didn't, but it helped others to represent that they didn't necessarily have to as well, because Canada didn't have to do it. But as a whole, that table needed to do it; we absolutely did need to do it and we had to do it immediately at that point. So that was helpful.

Crises help forge relationships, and the relationships that we built up in the G8 and G20 have helped to advance the reform process, and certainly the performance of the Canadian sector has helped advance things.

Finally, I would say that it's up to us to provide some intellectual leadership on some issues at the G20 to move things forward, because the system obviously needs dramatic change.

With respect to the home renovation tax credit, it was a sort of Men in Black incident as I moved over from the Department of Finance to the bank and was reprogrammed. I'm afraid I've forgotten exactly how a tax credit works, so I'm not going to be able to help you out.

[Voices]

Oh, oh!