Finance Committee on Oct. 29th, 2013

[Stephen S. Poloz]

I think there's a very low threat level at this stage. Inflation is below target now, and we have excess capacity in the output space, and we believe we have even more excess capacity when we look into labour market space. So we expect to have our hands full working off those excess capacity numbers over the next couple of years and getting the gap back to zero. Having inflation expectations still well anchored at 2% gives the economy the opportunity to bring inflation back to about 2%.

At this stage, with all those ingredients, I see minimal risk of an overshoot of core inflation, but, of course, that is our core mandate, so that's the thing we would watch most carefully for signs of. At this stage, the ingredients simply aren't there.

[The Chair, Conservative, James Rajotte]

You can ask a brief question if you want to, Mr. Adler.

[Mark Adler, Conservative, York Centre, ON]

I know this is sort of out of your area, but would you say that the balanced budgets we will achieve in 2015 as a matter of fiscal policy are an end in themselves?

[Stephen S. Poloz]

I think having a strong fiscal situation is an excellent ingredient to carry forward. We went through a terrible shock in the 2008-09 period, and the runback has been taking a long time, but we have to be prepared for the next shock. We have no idea what it will be like. So I think the fact that Canada will go into whatever that is with a strong fiscal situation is obviously in its favour.

[The Chair, Conservative, James Rajotte]

Thank you.

Monsieur Caron, s'il vous plaît.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

Governor, senior deputy governor, welcome.

I'd like to ask my questions on the issue of quantitative easing. I'll ask them in English because of the technical words, and I want to give some mercy to the translators.

According to Bloomberg, back in 2010 Minister Flaherty actually told CBC television that quantitative easing was an option for policy-makers.

In December 2010, still according to Bloomberg, Minister Flaherty said, “the U.S. has few options other than quantitative easing since President...Obama lacked the ability to win legislative backing for further stimulus measures”.

Now in 2013, earlier this month, in Washington, Minister Flaherty actually said and was quoted as saying that quantitative easing is “not good public policy”. He said the U.S. should never have implemented the policy “in the first place. Now that they've done it, they should get out of it as quickly as they can”.

So who is right? Is it the 2010 Minister Flaherty or the 2013 Minister Flaherty?

[Stephen S. Poloz]

I believe that's a question for Minister Flaherty. I can only say from the Bank of Canada's point of view, as we laid out in 2009 in the midst of the crisis, all central banks have reviewed the full range of options. These are options that were not contemplated for a long time but were there in theory.

As you know, Chairman Bernanke was one of the foremost academic researchers dealing with these issues. So it was probably fortunate for everyone that someone so knowledgeable was in that position at that time.

The tool kit that we have available is there for when we are in an extreme situation, as when we've lowered interest rates as much as we possibly can. From then on, if the economy still has weakness or we're concerned about inflation falling even further and becoming perhaps deflation, that is when the textbook tells you to start looking into that tool kit.

We were clear then that in those cases we would make use of forward guidance, which in fact the Bank of Canada did, and that we would look into things like quantitative easing and qualitative easing. Those tools remain available, but I know we all agree that we're very fortunate we did not have to go into that situation and we hope never to do so.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

I think we agree that this is an extraordinary measure for extraordinary times. But I think the issue here, especially with Minister Flaherty's comments, is that some believe that quantitative reasoning is akin to printing money. My understanding is that it's basically a debt or asset swap. You are basically putting some more liquidity in the market. You are increasing the money supply in that way. But you are taking away from the money supply through long-term obligations, bonds, or to some extent with some securities.

Would you agree that it's not printing money per se? Is this the reason you're still seeing that tool as part of your tool kit for extraordinary times?

[Stephen S. Poloz]

The actual mechanism is one where the central bank expands its balance sheet beyond its normal rate of acquisition of government debt. That creates a higher level of settlement balances in the banking system. So it's liquidity in the sense that you describe.

That liquidity is then available to offer reassurance. I like to think about the bubble that we had. After the bubble burst, there was a crater and the central banks filled the crater up with liquidity so we could row our boats across it.

Once across it, then it's okay to take the liquidity out. So that liquidity does perform the function that the first textbook might describe as effectively printing money, because both sides of the balance sheet are expanding. But it is not literally the printing of actual money.

[Guy Caron, NDP, Rimouski-Neigette—Témiscouata—Les Basques, QC]

When you set the inflation targets and range, you have a discussion with the Department of Finance, which is fine. On the issue of quantitative easing, my understanding, from what Mr. Flaherty said, is that you would actually have to ask the Department of Finance's permission to use that tool.

This question is a serious one. What does that say about the bank's independence from the Department of Finance?

[Stephen S. Poloz]

The situation in which this question would come up would be one that is particularly dire. The outlook for the economy would be very poor and the inflation outlook would be extremely below our target, with perhaps a risk of deflation. It is a context in which all policy-makers would be discussing the menu of options available to us.

We would decide that the package would look like this, in a context like that. When we went through this the last time, we had a very thoughtful and vigorous fiscal response that actually helped the economy quite a lot—the infrastructure program, etc. These measures reduced the risk significantly. That's exactly the kind of team-based approach that I would expect to see.

It is not a question of independence. The question of independence goes to pursuing the mandated inflation target with the best tools available. If we were in a situation like your premise, it would be beyond the point where we would be able to do this. It would be “all hands on deck”.

[The Chair, Conservative, James Rajotte]

Thank you.

Mr. Van Kesteren, please.

[Dave Van Kesteren, Conservative, Chatham-Kent—Essex, ON]

I want to continue on that vein. On your opening page you talk about the Federal Reserve, saying, “More recently, financial conditions have eased somewhat, following the decision in September by the Federal Reserve to maintain the pace of its asset purchases.”

Is that a nice way of saying “buying bonds”?

[Stephen S. Poloz]

Yes.

[Dave Van Kesteren, Conservative, Chatham-Kent—Essex, ON]

So they're buying their own bonds.

[Stephen S. Poloz]

Yes.

[Dave Van Kesteren, Conservative, Chatham-Kent—Essex, ON]

So in regard to what Mr. Caron is saying, as a matter of fact the United States is pumping—correct me if I'm wrong—$85 billion into the economy every month. They're printing that money. They're getting that money from bonds that they're buying, in essence, so it is printing money.

I just want to make this point, because you touched on the significance of our debt and getting that debt under control. There are governments, especially in the G-7 and G-8, that have engaged in a practice of exactly what the United States is doing, printing money. Whereas in the case of Canada, we have targeted 2015 to be the time that our budget is going to be met.

I want to ask you—and I think I know the answer, but I really want to hear you say this—how much more significant that is, and how much more important. And is there a danger in what's happening in the States and some of these other places, but especially in the United States, where when you start printing money you're going to be in the same position that the Weimar Republic was in, in 1920, where they'll lose confidence in that money?

I wonder if you could just clarify that and maybe tell those who are listening about the importance for Canada of balancing that budget.

[Stephen S. Poloz]

It is of strong importance, but I do think of the two things as separable. That, I think, is the important distinction we should draw from that historical episode that you refer to. In the historical episode you refer to, the central bank was actually issuing money so that the government could spend it. If instead there is a stock of debt in the economy already, people have willingly purchased that debt, and now the central bank goes out and buys some of that debt at a higher price so that their interest rate is lower. What that does is put additional liquidity into the system, cause people to re-evaluate what the interest rates will be for investment or what have you over the course of the next couple of years, and perhaps influence their decision-making and strengthen the economy.

At a minimum what it does is give them assurance for the liquidity they need; they don't have to be concerned about the kind of market volatility that can deter investments. So they get extra certainty from it.

As a consequence, you're not having a massive impact on the real side, but on the margin. What the literature is showing us is that the U.S. program has influenced the economy and made it a little stronger than it otherwise would be. That's a good thing. Later on, of course, it has to get wound down just like every other such program.

But I think quite separately the U.S. is working on its own budget deficit, in different ways than we do here. That's a separate issue to the bond purchase program that the Federal Reserve is engaged in.

[Dave Van Kesteren, Conservative, Chatham-Kent—Essex, ON]

Let me ask you a direct question. Would you rather be the Governor of the Bank of Canada with a balanced budget in 2015, or the Secretary of the Federal Reserve with a runaway deficit that's approaching $1 trillion—not approaching, it's exceeding $1 trillion every year with no end in sight?

What's the better scenario to have?

[Stephen S. Poloz]

I do like our scenario better, but I would respond that the U.S. fiscal deficit has come down very significantly since its peak. It's about one third of the size it was at the peak. Progress has been very real despite everything that we've seen.

Nevertheless, yes, as a central banker I feel that's an important fundamental and I'm happy that it's a strong one.

[The Chair, Conservative, James Rajotte]

This is the last question.

[Dave Van Kesteren, Conservative, Chatham-Kent—Essex, ON]

On page 19 you state, “Although much uncertainty surrounds estimates of potential output, the Bank projects that the profile for business investment will lead to further capital deepening (i.e., more capital will be available to workers)...”.

Is that a direct result of—I know that we have implemented the accelerated capital allowance—such programs that allow for and encourage that kind of activity?

[Stephen S. Poloz]

There's no question; programs like that play a role in adding to that momentum and perhaps in cushioning the downside when uncertainty was at its peak.

We think the main variable at work now is uncertainty. Companies that are putting their real money on the line want to be very sure that this upturn is for real and that the orders they see coming aren't going to fizzle six months after they make a new investment. Many of them downsized during the downturn, so the decision to re-expand is a pretty significant one. It takes real money to do, and of course it takes courage.

So because of the uncertainty it's taking longer than our models normally suggest, but we do think, as Mr. Macklem has said, that the pieces are all together for that.

[The Chair, Conservative, James Rajotte]

Thank you.

Monsieur Côté, s'il vous plaît.

[Raymond Côté, NDP, Beauport—Limoilou, QC]

Thank you, Mr. Chair.

Mr. Poloz and Mr. Macklem, thank you for making yourselves available to answer our questions.

I want to congratulate Mr. Macklem on his speech to the Economic Club of Canada, in Toronto. He brought to light the very big challenges our exporting businesses are facing.

I will begin with a quick question about the changes you made to the report's format and style in order to explicitly capture the inherent uncertainty in your outlook. Does that have to do with the current circumstances in the global economy, meaning financialization, the larger presence of financial markets and such?