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More Deflation

While some prices rose slightly and others fell slightly between July, August and September, the total Consumer Price Index has remained exactly the same through these months. The annual inflation rate declined by 0.9% in September, tying July for the largest rate decline since 1953. All provinces but Saskatchewan now have negative inflation.

While the main story continues to be lower energy prices in 2009 compared to 2008, this morning’s numbers provide some indication of a more general downward trend. The Bank of Canada’s core inflation rate, which excludes energy, declined for a fourth consecutive month. Specifically, it fell to 1.5%, the lowest core rate in more than a year.

The stronger Canadian dollar, which should lower import and commodity prices in Canada, may be aggravating the deflationary effects of lower energy costs. In particular, the exchange rate could help explain why Canadian prices remain flat while American prices are increasing slightly.

However, not all of the loonie’s value is being passed along to Canadian consumers. The OECD’s latest figures on purchasing power are for August, when the Canadian dollar bought as much in Canada as 89 American cents in the US. But the Bank of Canada’s figures indicate that the Canadian dollar traded for an average of 92 Americans cents that month.

The key policy implication of this morning’s numbers is that concerns about rising inflation remain entirely hypothetical. The Government and Bank of Canada are still free to pursue expansionary fiscal and monetary policies without stoking excessive price increases. Indeed, the central bank could and should sell Canadian dollars on world markets to moderate the exchange rate.

Even if an enlarged money supply (or government stimulus spending) added to domestic inflation, it would not be a major problem. For example, if the national inflation rate were boosted by four percentage points, it would be 3%. Given that the Bank of Canada’s target range runs from 1% to 3%, that outcome would hardly be calamitous.

UPDATE (October 17): Quoted in The Toronto Star

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Comments

Comment from Brandon L
Time: October 25, 2009, 4:14 pm

The central bank should not engage in selling Canadian dollars in the world markets or use quantitative easing, the odds of nations devaluing themselves to prosperity doesn’t have a track record to speak of.

Just to be more competitive,that is a form of protectionism. Frankly, since almost every currency has risen against the US dollar. Do you really want to encourage a race to the bottom by devaluing our currency, and if the usd drop another 10% would you encourage a further drop to stay competitive, the us can sell a lot more US dollars on the market then we can. Should all exporting nations that experienced a similar rise in their currency follow suit devalue their currencies to be competitive or should we follow suit like Australia, who pleasantly surprised me. They seem to have no problem with currencies rise given the increase in rates.

Obama administration has not acted once to support the USD. For all I know it could go a lot lower. Then HR1207 will change their central bank forever since over 75% of Americans and 300 co sponsors when that passes some time into the next year.

The US is not ready to raise interest rates. We will be waiting a long time before we see the FED raise rates, in fact I’ll go to say we will be waiting too long before were forced to raise rates because the US just wont, for all I know the US dollar, since empirical data would suggest the dollar over the course of a 100 years, 50 years, 30y, 20y is declining continually gradually. Why peg yourself to something in decline?

Over the last 8 out of 9 years the USD declined. I dont know how long but our fate is really in the US hands unless they raise interest rates and stop selling us dollars on the open market unlikely. Obama is increasing the housing stimulus increasing the tax credit too 15,000 for 6 months, then 6 months from now it will be extended again.

As long as all the tax payer programs remain intact and unpaid for; how will the CB or FED raise rates in the third quarter of next year on record breaking deficits with no end as far as I can see. We will be raising rates in the fourth quarter I think of next year but it will be before the fed further increasing the value of the Canadian dollar and about 20 other currencies as their central banks to begin to raise rates.

Australia was the first and will benefit greatly as it raises it interest and garner investment from the carry trade as investors borrow in us dollar to fund higher yielding stock and currencies to profit from the difference. Emerging nations will benefit the most since they offer more attractive yields then those of the developed world. As developed nation raise their interest rate, profit taking will emerge in the emerging nations as flows reverse into the developed nation that manage to raise interest rates.

The Yen no longer makes the ideal funding currency. We have seen the Pound and USD replace the traditional funding currencies of the Yen and Swiss France. This will further put pressure on the US dollar as the world become awash in dollars chasing assets and goods.

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