Finance Committee on April 29th, 2014

[Stephen S. Poloz]

I have not looked closely at that analysis, and that is really, I guess, a question for somebody else.

[Murray Rankin, NDP, Victoria, BC]

Why do you believe that employment growth was so sluggish in the latter half of 2013?

[Stephen S. Poloz]

I think it ties back to what we were saying earlier. Canada's main driver has always been that the natural growth in Canada has come from external demand, driving through exports and giving us more sales and therefore more investment and employment growth as we expand to meet that demand. This linkage has simply not yet taken hold in the Canadian economy, and so we have gone through a period when, although we thought it was about to happen, it simply didn't, and those expectations were dashed. I think employment plans were put on hold until it becomes more real.

[Murray Rankin, NDP, Victoria, BC]

I want to ask you again. Do you agree with the Parliamentary Budget Officer that spending restraint is “acting as a drag on economic activity and job creation”?

[Stephen S. Poloz]

Well, if you're asking me the basic question whether fiscal restraint reduces demand in the economy, then yes, it does; however, I don't have any sense of whether the numbers you have put on the table are fair numbers or good numbers. We have not done a similar analysis. The general proposition is true.

[Tiff Macklem]

The only thing I would add is that when we set monetary policy, we take into account all the things that are affecting the Canadian economy. Obviously, fiscal policy is one of those things. We take the government's plans as given, as they are published in their budgets. That is factored in and is taken into account when we take our decision. Given the combination of weak export performance and everything else going on in the economy, we have kept interest rates very low, and that is providing a lot of stimulus to the Canadian economy.

[Murray Rankin, NDP, Victoria, BC]

I'm wondering in a similar vein whether you agree with the C.D. Howe Institute and Statistics Canada that the temporary foreign worker program has increased joblessness. Is that something you have looked at?

[Stephen S. Poloz]

It is not something we look at, no. It's quite far removed from the mandate of monetary policy.

[Murray Rankin, NDP, Victoria, BC]

This is a question for clarification. In your opening statement today you talked about economic slack and heightened retail competition keeping core inflation below the target rate until early 2016. It's the expression “economic slack” that I don't quite understand. Is it the same as the material excess capacity, chart 12 on page 14? Is that what you're referring to?

[Stephen S. Poloz]

Yes, it is. That's one measure of it, and the unemployment rate would be another measure, or the capacity that is in the employment space. There are multiple measures, but that's what we mean.

[Murray Rankin, NDP, Victoria, BC]

It's a sort of shorthand for material excess—

[Stephen S. Poloz]

That's correct.

[Murray Rankin, NDP, Victoria, BC]

Okay.

If the downside risks that you've identified in the monetary policy report were to come to pass, and this is a general question, what would the bank's response be, and what would you recommend that the federal government do as a consequence of those risks?

[Stephen S. Poloz]

If a significant downside risk were to emerge and it changed the balance of risk that we talked about before.... Our balance of risk right now is that we think interest rates at 1% are in about the right place, taking into account the fact that imbalances in households are high and fragile, at the same time that inflation is below target and could fall further below target if there were downside risk.

If there were a significant downside risk that altered this picture, then you would have to talk about the possibility of having a lower interest rate in that situation, but you would then have a whole new set of risks to try to balance in deciding what the appropriate risk minimization strategy is for the central bank.

[The Chair, Conservative, James Rajotte]

Thank you very much, Mr. Rankin.

We'll go to Mr. Van Kesteren, please.

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

Thank you both for being here.

Tiff, we'll miss you. It's been a number of years that we've seen you here sitting beside the governor. You've always had a great input to the cause. We thank you for your service. We're going to miss you.

[Tiff Macklem]

Thank you.

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

I want to ask a question. I've always been a great champion of our banking system. I really believe that the last great recession which, as you've said, Governor, we are trying still to climb out of completely has been a result of reckless behaviour on the part of banks. I read a report this morning from the Deutsche Bank. They had exposure, it says, to $75 trillion in derivatives. We know that the last great recession was largely a result of toxic mortgage derivatives in the States.

I'm curious, first of all, whether you monitor our banks, and second, as to whether you can give us a report on how our banks are faring in those areas that caused us those problems five years ago.

[Stephen S. Poloz]

It is actually our role to understand those things; however, it's OSFI's role to regulate our banks to ensure that they're meeting their requirements. The big picture, I think, of what went wrong in the lead-up to the financial crisis shows that it was leverage. There was a great deal of leverage out there that puffed up financial markets and led to a domino effect as things started to unwind.

Leverage doesn't disappear just because the crisis is over. When we go back to last spring, when the first mention of tapering happened and financial markets had a lot of volatility, that was again because there is leverage in certain areas of the market in which it looks easy, if the risk is low and you can stack up your position by leveraging it, to earn returns of multiple times in that situation.

Leverage is a fact of life in the financial markets. Part of the new Basel package, if you like, that the FSB, Financial Stability Board, is working through, is to ensure that there are limits on the leverage that banks can undertake. Those limits will actually be limiting, compared with what we saw in the run-up to the crisis.

We are in the process of developing an entirely new international financial architecture that already feels much safer than what we were living with before. It is not yet done. As a lead-up to the summit in Australia later this year, I would say that we're looking at probably 80% of the job being done, and that's a pretty significant step forward. There still will be new developments on the regulatory front.

Tiff, would you like to add something?

[Tiff Macklem]

I would add that from a Canadian perspective we have long had a leverage limit, a 20:1 asset-to-capital ratio. That is an important reason, among several others, that Canadian banks did better through the crisis. Because of this leverage cap, buying securitized subprime mortgages and making money on doing so by levering up was effectively not a good business model for them, because they couldn't lever up over their cap. As a result of that, along with good risk management, Canadian banks did not load up on those, and so when those products collapsed, they didn't create a big hole in our system. That thinking has been imported into the global rules.

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

What I really wanted to hear, and I think I'm hearing, is that we still have those good Scottish institutes keeping our Canadian institutions strong and that we're not making those risky ventures that caused all this mayhem in the past.

Is that a good assumption to make? I think Canadians want to hear that, and I certainly want that to be the case.

[Tiff Macklem]

There is a very generous and long phase-in period to bring in the new higher Basel capital standards out to 2019. OSFI decided, quite intelligently, to make Canadian banks meet those now, and all major Canadian banks do meet those higher standards today.

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

Good, thank you.

In the past, we had a lower dollar. Our illustrious chair and I were privileged to sit on the industry committee. We discovered that one of the problems that we experienced in the past is we didn't take advantage of that low dollar. You've talked quite a bit about the need for our productivity to improve. Are we seeing those same trends? There was an awful lot of clamour in the past—I'm talking in the past few years—that we needed to drive our dollar down. I don't know how we're supposed to do that. I always interpreted it as a sign of weakness in our economy. However, we have seen the dollar drop 10¢. Are we making the right choices now? I don't know if the Bank of Canada monitors those things, but are we not going to make that same mistake we made the last time and take that advantage? I know that the equipment costs a little bit more, but because we should see an influx of orders, are we taking advantage of that?

[The Chair, Conservative, James Rajotte]

Just a brief response, please.

[Stephen S. Poloz]

A brief response would be yes and no, because for every company we can find that has not, we can find another company that has. In the aggregate, we have lost competitiveness overall, and it's in that half of the export sector I talked about earlier where it's most severe. But the other half has done an extraordinarily good job. Taking advantage of a strong dollar to buy equipment is usually the way it works because the strong dollar makes it cheaper to buy that stuff. However, if you're in the middle of a recession, if your companies are getting hit very hard by that, it's very hard to come up with the kind of financing that it takes to do that at that time. It's easy to explain but not easy to forecast.