Finance Committee on April 29th, 2014

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Van Kesteren.

I'm going to take the next round, as the chair.

I wanted to start with the issue of commodity prices, specifically the price of oil. On page 6, you talk about the Brent price, the WTI price, the Western Canadian price, in terms of its coming together. Your predecessor spoke quite often about constraints, especially to pipeline access. Because of the price changes, are you less concerned about constraints in getting these commodities to market?

[Stephen S. Poloz]

It's true that the current picture looks less concerning than it has at certain times in the past. At the same time, there isn't a very clear pattern in the periods of angst, as opposed to periods where it seems fine. I'm not confident that we can explain all that, but we do think that logistical connections are the key thing, the bottlenecks that have given rise to this situation in the past. Over time, that seems to be easing on trend line because of increased use of rail to make delivery, and certain pipelines have been expanded or fixed up, etc. The capacity constraints seem to be easing through time, and therefore, they get a gradual convergence in those prices, not total, but gradual.

[The Chair, Conservative, James Rajotte]

Okay.

The second big topic I want to raise, following up on some of Mr. Van Kesteren's and others' questions, is competitiveness and productivity, and especially on Canadian companies being able to maximize the situation of a higher dollar versus a lower dollar. You just answered very well in terms of the challenges of a higher dollar, that's a good time to be maximizing that because of the lower input cost. But as you mentioned, if you're facing financing challenges, then it's a very hard time for a company to do that.

I would like you to comment, and your predecessor also commented, on the fact that Canadian companies in the last number of months, perhaps years, have been sitting, to use a pejorative term, on a fair amount of cash and not actually using it.

Do you want to comment on that? Do you still see that as a problem for the Canadian economy, that companies are still being perhaps too prudent and not investing enough in their own enterprises and in the economy as a whole?

[Stephen S. Poloz]

I do spend a lot of time talking to the actual companies as opposed to relying on our models to explain this, and I find it to be very helpful to do that. What I pick up, as I was relating earlier, is the sense that companies and their boards have been through a lot in this period and so the bar for making a decision is higher than it has been in the past in terms of confidence in the outlook.

When you're looking out there and you see the U.S. economy going through a pretty good summer and then a bad winter, is that just because of weather or is it coming back? Those bits of uncertainty really cause companies to hold back, and it's totally understandable. It's true that balance sheets are healthy. We think that's excellent because it's one of the important ingredients to the upturn that we're describing.

What we think is that all the pieces are coming together with a stronger U.S. economy, more export growth, and the strong balance sheets, and of course inexpensive financing if that's the route you need to go.

All of those ingredients are ready. All we need is the extra degree of confidence that it's a sustainable growth upturn as opposed to another temporary one. I'm confident that's what we're seeing and so over the next year or two, we will see a big difference in that. But that's a forecast, it's not in the numbers yet.

[The Chair, Conservative, James Rajotte]

Just to be clear then, their actions in terms of maintaining healthy balance sheets over the last number of months, perhaps the last number of years, has actually been prudent on their part in the sense that they've looked at a lot of short-term actions and their response then has been reasonable to that rather than....

[Stephen S. Poloz]

My sense is that they're ready and they are not yet quite constrained in terms of their capacity. They can make the deliveries they're being asked to deliver with what they have and the time to invest is the next stage, and we'll see a significant increase in investment and the productivity numbers will show this, as well.

[The Chair, Conservative, James Rajotte]

My third and final point will be, if we were here in 1994 and we made a list of things that the government should do, from a fiscal and monetary point of view with respect to productivity and competitiveness, I suspect the list would have been completed by now.

That's in the sense of I think the government, from a fiscal and monetary policy point of view, has actually put in place a lot of measures in the last 20 years to address productivity and competitiveness and yet it's still a nagging challenge and one that seems to not go away, and frankly, the measures we've put in place seem to have not had as much of an impact as they should.

I have about a minute and a half if both of you want to address that.

Tiff, that may be your big job going forward, to figure out exactly why those measures haven't had more of an impact than we thought they'd have.

[Stephen S. Poloz]

I do not have a satisfactory explanation for that history over the last 20 years. It's very hard to explain how the economy has behaved in this respect. The thing is, when you talk to companies, they have great productivity stories to tell and yet it's not in the statistics.

What I believe is that through the aggregation process we get a picture that is different for Canada from what the underlying truth often is. For example, we have a big increase in the resource sector because of the rise in terms of trade, primarily the oil sector. In level terms, that's a low productivity sector. You have to drill a lot of holes and then some of them work and others don't work, and so on. It's not like a fine-tuned factory where you can boost productivity with a new machine.

That shift in the weight of the economy changes the overall productivity picture in a way that may be hard to explain, yet if you look down at the firm level, all is well.

I'm not trying to confuse the picture. I'm just saying it's not actually that easy for us to explain even ex post.

[The Chair, Conservative, James Rajotte]

Do you have a brief comment?

[Tiff Macklem]

As the governor says, this has been an ongoing puzzle. I would agree that successive governments have done many of the right things. I think one thing to keep in mind is that while productivity growth has disappointed, it was growing at least 1% over the last 20 years and of course just to get that 1% you have to do the right things.

If you go back in history when it was growing faster, you know that didn't come for free either. Just because we didn't see a big increase in productivity growth doesn't mean the policies had no effect. We were still getting one per cent.

Having said that, it is a long-standing puzzle and maybe I can get some of the brainiac professors at the Rotman School to put their minds to it.

[The Chair, Conservative, James Rajotte]

Thank you. I appreciate that.

We're going now to Monsieur Caron.

You have five minutes.

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

Thank you very much, Mr. Chair.

I would like to talk about the models used by the Bank of Canada. There have been many references to animal spirits in difficult and uncertain times.

Back in Montreal I think you actually referred to these animal spirits in that sense, when you talked about.... I will find it eventually, but you referred to the difficulty and the models the bank is using are basically raising more questions than answers, because those times are difficult to predict and forecast. This is basically the same analogy.

You also mentioned, as a metaphor, that the dog is sometimes going in many directions while you're trying to lead it. On the other hand, after a while, you know your dog and you start to see a pattern and you can actually see in which direction it goes.

In terms of modelling, after what we've seen in the last three, four, five years, and the experience we had in previous recessions or previous chaotic times, isn't it possible eventually to adapt our models to that reality, to those animal spirits eventually? I do not say perfectly, because there is still a large part that is unknown, but eventually we'll need to include them to have a better idea of what to expect during such difficult times.

[Stephen S. Poloz]

The answer is yes. Economics will always be based on models, because we can't obviously do everything. so we try to abstract or summarize or simplify.

The problem we have is that we aren't actually through this one episode yet. The simple story I like to tell is about how we had a bubble. We're all familiar with it. We had the crash of the bubble. Bubbles leave behind craters, and the bubble was seven years in the making. It looks like it really is going to take up to seven years to repair all the damage that happened during that time, so we have another couple of years to go before we can say we're through this. We will have learned a lot about underlying behaviour during this episode, which will cause us to think about our models in different ways and indeed perhaps to redefine what it is central banks do in these times. We have changed quite a bit what central banks do through this, necessity being the mother of invention.

All that is to say that yes, there will be a new generation of models as we come out of it, but in the backbone of the models we have now, there's still what I think are basic truths that we will return to. They're so fundamental that we believe they will still be there. It's simply that we have to get through this thing and to come back together until we get to normal. While we've talked about how that normal may be drifting or evolving, it still has a lot of properties that we're used to and have applied over the past 30 years.

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

I understand what you're saying, and that this is the reality. I agree with you that we still have something to learn from the current situation we're in.

On the other side, we've seen animal spirits, say, during the tech bubble, for example. Would you say that the models used by the bank and by the private sector as well have been modified, changed and adapted to that reality over that time, and does that lead us to be hopeful with this situation?

[Stephen S. Poloz]

That's an interesting parallel, because we had a tech bubble which we're all familiar with, especially here in Canada, and it collapsed, and very little happened. Very little happened in a macro-economic sense, but it was a much more narrowly focused bubble.

The one we're talking about in this decade was more one where leverage went everywhere. It was in the financial system, not simply in a particular sector of the stock market. Anywhere you could make a bet, you could get leverage and put it on that bet—commodity markets, housing markets, intermediaries in housing markets in the U.S. It went truly global that bubble, so the repair job is much broader and involves much more and, as you know, is requiring a whole new architecture for the financial system.

This is a substantially bigger thing than the tech bubble. Fundamentally, though, how it impacted ordinary people is not that different. The stocks went down. It had a wealth effect. It caused a little ripple in the economy. This one was really so much bigger, and it was synchronized.

[The Chair, Conservative, James Rajotte]

Thank you.

I'm going to Mr. Keddy, please, for a short round.

[Gerald Keddy, Conservative, South Shore—St. Margaret's, NS]

Welcome, Governor, and Deputy.

A fair amount of discussion here is on a couple of things that keep coming back full circle. One issue being discussed, and I'm not 100% clear on the answer, is the relationship, as the chairman mentioned, between competitiveness and productivity and the growth challenges. You mentioned in one of your statements on how the value of the dollar is hooked into competitiveness and productivity.

The part of that statement I don’t think we’ve looked deeply enough at is the connection between...you know, when the dollar was trading at 36¢ to 38¢ lower than the American dollar. Too many small businesses thought that it was profit, it was exchange, and that's something totally different. I think part of it was simply an educational process, maybe an opportunity that was missed. The other thing that happened with the lower dollar is that the excess profit wasn't invested in machinery. A lot of it was invested in the people and wages, and wages went up exponentially and productivity, quite frankly, went down.

Do you want to explain that connection? I think it is a very difficult connection and one that is very difficult to control.

[Stephen S. Poloz]

Perhaps the simplest way to think of it is, think how an individual company would think of it. Is that company competitive and is it able to make a sale against someone else that does almost or exactly the same thing? If the company is, let's say, down the street, the exchange rate does not come into the picture at all. If you have a better, higher level of productivity in your operation than the person down the street has, you can offer the same thing for a lower price to the customer.

What if the person down the street has lower productivity than you have but has a better delivery system so they get it there two days earlier than you do? That is another element to the competitiveness equation, and the exchange rate still hasn't come in.

Now, we take those two companies and they're competing with somebody in the United States that does the same thing, and their costs, for a foreign buyer, are now impacted by movements in the exchange rate on top of all those other things. That's why this is in layers. If you look at the chart in the monetary policy report that Tiff referred to, it takes the relative costs between Canada and the United States and asks how were those relative costs translated into a single currency, taking account of the exchange rate effects.

The rise in the currency over the past 10 years has made a significant difference in that chart. Overcoming that rise in the currency would mean really increasing your productivity in your operation, or doing something completely differently to overcome that cost disadvantage; hence, the headwinds we described. I said that rise in the currency was associated with the terms of trade rise and therefore there's nothing we can do about it. It's a part of the macro picture.

[The Chair, Conservative, James Rajotte]

You can ask a brief question.

[Gerald Keddy, Conservative, South Shore—St. Margaret's, NS]

The other connector in there…we know that household debt is somewhere, and you mentioned at 165%. At the same time, the net worth of the same household has actually risen over time. Again, that is still all hooked back to the value of the dollar, whether you're in the export business or you're selling to your neighbour down the street, and global demand of commodities, and we're a commodity-driven economy. You know, you have this inner lacing of all these issues and at the same time, the one place where we thought we were falling apart was in that net worth and the indebtedness of Canadian families—

[The Chair, Conservative, James Rajotte]

Okay.

[Gerald Keddy, Conservative, South Shore—St. Margaret's, NS]

—and it really isn't falling apart there. It seems to be fairly strong.

[The Chair, Conservative, James Rajotte]

You may make a brief comment, please.

[Stephen S. Poloz]

Well, the answer is yes. That's correct.

[The Chair, Conservative, James Rajotte]

Okay. Thank you.