Finance Committee on April 28th, 2015

[The Chair, Conservative, James Rajotte]

Thank you.

Mr. Caron, you may go ahead for seven minutes.

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

Thank you kindly, Mr. Chair.

Thank you, Governor and Deputy Governor Ms. Wilkins.

I want to get back to the housing market. You've said that you are expecting a soft landing in the housing market. Back in December, you said that you estimated the overvaluation in the housing market to be in the order of 10% to 30%. There have been many estimates coming from other banks. I know that the Deutsche Bank reported that it was about 35% relative to income. The Economist said in January that it was at about 25%.

When we talk about a soft landing, it means that the overvaluation can actually be deflated slowly, to the point where we can actually have a more normal market. On the other side, the Bank of America said that Canada seems to be experiencing something like “a classic bubble”.

The question really is, if we have to have a soft landing, we really need to be outside of the bubble mode, don't we, in the sense that the bubble can actually explode if it's really something more...?

It's more of a situation where the bubble can deflate more slowly. Is your view more or less optimistic than the private sector's?

[Stephen S. Poloz]

Just to go back to the first premise, first of all, we don't believe we're in a bubble. There are many other characteristics of a bubble situation that are not present: highly speculative behaviour, people buying multiple houses just because they can sell them later, and that sort of thing. We have in fact been building houses very much in line with demographic demand in Canada, so there's no excess, if you like. Those are important things to bear in mind.

Our modelling, which is based on not just Canada but on something like 40 or 50 housing events globally, did suggest that the extent of overvaluation was around 20%. The “around” is a very important word, because statistically it says it could be as low as 10% or it could be even higher than 20%. That's a statistician's way of describing a range of possibilities. What this means is that our modelling is reasonably consistent with all of these different statements that are taken much less cautiously, if you like.

It would be unusual for us to have a cycle like we've had where housing did most of the work of keeping us out of recession. People buying houses sooner in their lifetimes because of lower interest rates is why we did not have a recession, plus the oil sector. Those are the two things that were really keeping us going. So it would be very unusual to come through all that and not have a degree of overvaluation; one has that in every business cycle like this.

When we talk about “a soft landing”, it's not necessarily the case that it's prices that do the adjusting, because the economy is below where we expect it to be, it's going to converge on its capacity and create a lot more jobs over these two years. What that does is it boosts the things that go into that model—incomes in particular—that make the housing market more sustainable from beneath. That's an important and complicated set of dynamics. It's in that environment that we look at the data and we say that macro-wise we feel that all those ingredients are coming together about as expected. It's later than we expected, but it's happening, so we're comfortable.

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

In that regard, I've seen some economic pundits and some media actually talking about possibly, as a prescription, decreasing the maximum term of publicly insured mortgages from 30 to 25 years. This is not the direction that you would go towards? You would advocate basically the status quo at this point?

[Stephen S. Poloz]

If I had some advice to offer in that domain, I would offer it privately with the minister, but it's not really our policy prescription, it's something that is determined by a broader set of actors. The bank acts more or less as an adviser in that context.

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

I'll move to last March in the same report where we heard about “atrocious” growth. You seem to actually have suggested—and we talked before about the tools and tool box—that the Bank of Canada could, if needed, launch its own version of quantitative easing, a “made in Canada” version.

I was intrigued. I would like to know, if we were to go in that direction eventually, what would make it “made in Canada”? What would make it different from what we've seen in Europe, the U.S., and Japan, for example?

[Stephen S. Poloz]

Fortunately, we have not been driven there. That tool kit would be opened up if we ended up having interest rates at zero. Indeed, what we've seen in a number of countries now is that we've discovered that zero may not be the actual lower bound, which...of course, again, this has never been done before so now we have negative interest rates in some countries.

Quantitative easing as a general concept means building up the central bank's balance sheet and putting more of those funds into the marketplace, and then watching the system use them. But every financial system is different, and so “made in Canada” might mean that we would choose specific types of assets to buy because we're trying to do what we call “qualitative easing”, which means asking where the problems are, which the U.S. did some of in order to try to make credit move faster in areas where there was a gridlock, if you like.

Quantitative and qualitative easing make for a wide range of possibilities in any situation. As I say, quite fortunately we have not been anywhere close to that need.

[The Chair, Conservative, James Rajotte]

Mr. Cannan, please, you're on.

[Ron Cannan, Conservative, Kelowna—Lake Country, BC]

Thank you, Mr. Chair.

To Mr. Poloz and Ms. Wilkins, thank you very much for being here.

I'm from the west coast in British Columbia, and I appreciate the great leadership you've provided over the challenges we've seen across our country. Especially, being born and raised in Alberta, I'm seeing lots of uncertain times.

In your opening comments you talked about the significant drop in the oil prices in just a few months, the tenderness in the market, and the fluctuating currency rate, yet Canada was the first of the G-7 nations to be able to have a balanced budget.

I was just wondering if you could elaborate, from your experience at the Bank of Canada, on what monetary policies have helped Canada achieve a balanced budget.

[Stephen S. Poloz]

Monetary and fiscal policy are conducted independently. As I said before, monetary policy must take into account whatever the fiscal plan is for government, because it's an important driver of what the economy will look like.

Our policies, in monetary policy land, have to look pretty far out into the future, because they have their effects over a two-year horizon. Full effects go within six to eight quarters. We must know what is happening on the fiscal side, but of course there's no actual interaction between those two.

In terms of outcomes, any time monetary policy helps bolster economic growth, which I firmly believe it does, that, of course, all other things equal, means that government revenues are stronger and so on. That's what you get when an economy is closer to balanced than far away from balanced. There's interaction in that sense.

[Ron Cannan, Conservative, Kelowna—Lake Country, BC]

People from the Parliamentary Budget Office are our witnesses in the next hour. They've been predicting and taking estimations out to 2080 on health care and tax-free savings accounts. From your experience, how far can you actually estimate into the future when you're doing economic forecasting?

I know you predicted growth averaging 3.5% over 2015 to 2017. I was just wondering, is that what kind of modelling, with some sort of accuracy...is it a few years out, and how accurate can you go out to 50, 60, 70 years?

[Stephen S. Poloz]

The answer is that once we get beyond, I would say, about a two-year horizon, you're at the point where it's only long-term structural things that are in the forecast tool kit.

For an economist, it would be asking what the demographic picture looks like, how many people are either arriving as immigrants or being born here and therefore how much the labour force is growing, and what companies are doing to the capital stock. That analysis, for us, given that we're at the back end of the baby boom and people are retiring, is that we believe that the Canadian economy is capable of long-term growth, a little below 2%, for a long, long time.

That's where that kind of analysis comes from. To go out 50 years or something, you would have big demographic-type cycles, perhaps, superimposed on that, which I have not done for you.

Those kinds of long-term determinants we can think of almost as constants. They only move very, very gradually. For us, what we want over the next two years is to be above that 2% growth so we can close the excess capacity gap. That will give us all the job growth and get people who may have lost their jobs back reintegrated into the workforce. When we get there, everything settles there at around or a little below 2%.

[Ron Cannan, Conservative, Kelowna—Lake Country, BC]

Thank you for that.

Looking at the next two to three years, you said that the economic growth is going to strengthen and average about 3.5%. Where do you see inflation?

[Stephen S. Poloz]

Just for clarity, that 3.5% number I gave you was for the world economy, which of course has a mixture of very fast-growing economies like China and India and so on. It's higher than our average. Our growth rate is a little less than 2% farther out. Between now and then we're going to grow above 2%, around 2.5%.

In that context, the reason we need to have growth in Canada above our potential growth rate is because we have the excess capacity. If we don't achieve that, then the excess capacity will persist and inflation will continually be pushed down below our target.

This is why our interest rates are what they are: to speed the economy up, to fill up that excess capacity gap, and to get inflation to sustainably land on 2%. For right now, my best estimate of inflation, as I said in my opening remarks, is complicated because prices are moving because of oil prices and because of the exchange rate depreciation. Those are temporary things that we look through.

We believe that, taking out all the temporary effects, inflation is running at around 1.6% or 1.7%. If nothing else happens, that's where we'll stay. But under our forecast, it creeps up to 2% because the economy gets back to full employment.

[Ron Cannan, Conservative, Kelowna—Lake Country, BC]

What price of oil are you using for modelling?

[Stephen S. Poloz]

We use a constant assumption with an average of around $60.

What is the latest one...?

Sorry, it's $5 less.

[Carolyn Wilkins]

It's okay, we have a couple of prices. For Brent it is $60 a barrel. For WTI it's $55, and for the WCS it's $40, and the last two I mentioned are the ones that are the most important for Canadian producers.

[Ron Cannan, Conservative, Kelowna—Lake Country, BC]

Thanks.

Switching gears to the employment issue, in your monetary policy report you stated that the “labour market conditions appear to have improved modestly, on balance, over the past six months” and that long-term unemployment rates have eased.

I have a couple of questions. Would you say it is a result of action taken to boost the employment sector since the depths of our recession, and what was the balance of opinion on hiring in the latest business outlook survey?

[The Chair, Conservative, James Rajotte]

You have about 30 seconds to respond on that one.

[Stephen S. Poloz]

Okay.

What we're expecting, as I described before, is a good upturn. We do have some very encouraging signs. Long-term unemployment is edging lower. We are seeing better turnover, more job vacancies. The unemployment-to-vacancies ratio has improved. So we're feeling quite positive about the underlying dynamics of the labour market. When we talk to companies in the BOS, they're positive, yet they're expressing prudence, because we've been through this before, where there are sort of false dawns in the world economy and then we get ratcheted back. But this time it feels the most real that it has up until now, so confidence is growing.

I can't be very precise about that, because it is an uncertain outlook, but it's a positive outlook.

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Cannan.

Mr. Dionne Labelle, you may go ahead for seven minutes.

[Pierre Dionne Labelle, NDP, Rivière-du-Nord, QC]

Thank you, Mr. Chair. I'd like to thank the witnesses for being with us.

I want to stay on the topic of excess capacity in Canada's economy.

In your January report, you talked about long-term unemployment. You said that it was continuing, still close to its post-crisis peak. You also mentioned involuntary part-time workers. In your current report, you say the long-term unemployment situation has improved. But the report doesn't mention unstable employment. In your Business Outlook Survey, you indicated that, in terms of intentions to increase employment, opinion had decreased to its lowest level since 2009.

That's a worrisome environment for those who are unemployed or currently looking for work. Has the situation really changed since January, or are we more or less in the same boat?

[Stephen S. Poloz]

It's clear that things have changed since January. The first quarter held a lot of uncertainty for many companies. I think my colleague may be able to elaborate on that.

[Carolyn Wilkins]

As we indicated, labour market growth is still possible. Since January, the numbers show an improvement in certain indicators. That gives us a bit of hope, pointing to an underlying improvement.

As you mentioned, the long-term unemployment rate has dropped. We're also seeing a decline in the number of part-time workers who would rather be working full time. That's a good thing. In addition, the ratio of available jobs to unemployed workers is increasing. That's very positive since it means that someone who is unemployed has a greater likelihood of finding a job.

[Pierre Dionne Labelle, NDP, Rivière-du-Nord, QC]

Fine, but I'd like to come back to the opinion of business owners.

According to them, their confidence is at its lowest point since 2009. That means a fairly significant grey area persists when it comes to the job market.