This just in from economists Domenico Lombardi and Pierre Siklos: The Bank of Canada, "might, at times, have trouble communicating the timing of the return to more 'normal' monetary policy, but exit will be implemented through standard measures accomplished by tightening the policy rate."
Mr. Lombardi, director of the global economy program at the Centre for International Governance Innovation (CIGI), and Prof. Siklos, a senior fellow at the centre who also teaches economics at Wilfrid Laurier University, make that prediction in Crisis and Reform: Canada and the International Financial System, a collection of essays related to the financial crisis that CIGI published this week.
Canada's central bank proved them right sooner than they probably imagined, as officials provided a less-than-satisfactory explanation as to why it intended to do what everyone expected it to do: keep interest rates ultralow. Policy makers said they were treating the rise of headline inflation to the 2-per-cent target as temporary, something that is entirely defensible. But they muddled the justification by saying too much – or too little, depending on how one looks at it.
The governing council explained the decision to leave interest rates unchanged by saying there "could be slightly less underlying momentum" in the U.S. economy than "previously expected." That assessment is more difficult to defend than the one that the jump in inflation is due to temporary factors. Most indicators suggest the U.S. economy is gaining pace after a hard winter and many economists see growth surging to an annual rate in the vicinity of 4 per cent this quarter. There are doubters who believe the U.S. is stuck in a semi-permanent, slow-growth phase, but those people are in the minority. The Bank of Canada now appears to have joined them.
There's been little market reaction to the Bank of Canada's latest communication. The dollar slipped a little Wednesday after the statement was released, and then rallied a little Thursday after the European Central Bank announced a new set of the stimulus measures that investors hope could boost global economic growth. Most investors also are looking through Bank of Canada statements the same way Canadian policy makers are looking through inflation: market participants largely have decided Canada's central bank will do nothing with interest rates until later next year, so there is little point parsing what the central bank has to say in the here and now.
But that doesn't mean there hasn't been damage.
Stephen Poloz spent much of his first year as Bank of Canada governor correcting an impression that he's obsessed with a weaker currency.
That's a tough sell, as the baseline for most analysts and traders is that exchange rates are at the heart of everything central banks do. Basing the latest policy decision on the debatable proposition that the U.S. economy is losing steam is catnip for the cynics. Prevalent in the commentary on Wednesday's policy statement was the assessment that the Bank of Canada is doing everything it can to avoid giving traders any reason to buy Canadian dollars.
The central bank offered no explanation for its pessimistic note about U.S. growth. Is it the housing market? Demand for homes in the U.S. has levelled off sooner than expected, which would be bad for Canada as a significant percentage of its exports to the United States is related to real estate. But we don't know if that is what is bothering Canadian officials, because they didn't say.
We are at the beginning of an extremely noisy and confusing period as central banks attempt to explain why they are doing things that seem out of step with accepted norms. Their credibility will be tested. Mr. Lombardi and Prof. Siklos conclude that the Bank of Canada has made few mistakes in recent years, and therefore should be trusted to steer a path back to normal. Adrian Miller of GMP Securities shrugged at the inconsistencies in the central bank's latest policy statement, assuming the governing council was buying time to get a better read on the economy.
As it grows more confident in its assessment, the Bank of Canada's ability to state how it will confront evidence of faster inflation should improve. There's reason to think a more satisfying message is at hand. A separate essay in the CIGI book offers a clear reasoning for why interest rates will stay low, no matter what distractions emerge along the way: "The recovery has been anemic, with growth held back by ongoing deleveraging across the advanced economies and a lack of rotation of global demand to fast-growing emerging market economies …Consequently, central banks will continue to need to provide considerable monetary stimulus to support the economy as households, banks and governments repair balance sheets."
The authors of that assessment: Bank of Canada deputy governor Lawrence Schembri and Eric Santor, the chief of the Bank of Canada's international analysis department.