Yesterday, Mike Moffatt took to The Globe and Mail’s “Economy Lab” in response to my suggestion that the Bank of Canada should moderate the exchange rate. (Perhaps his motive for encouraging me to seek the Saskatchewan NDP leadership was to get me as far as possible from the levers of monetary policy.)
Mike Moffatt’s friendly rebuttal of my comments on last week’s inflation report advances an important debate about Canadian monetary policy and the exchange rate. In fact, I believe that we agree on several key aspects of the central bank’s capacity to moderate our overvalued loonie.
The OECD calculates that a Canadian dollar has only as much purchasing power in Canada as 80 American cents in the United States. But our dollar has been trading for more than 100 American cents on financial markets.
Canadian-based exporters buy their inputs using the currency’s actual purchasing power, but then must price their output at the much higher exchange rate. This squeeze on exports has helped push Canada into a trade deficit, which subtracts from economic growth and employment.
In July’s Monetary Policy Report, the Bank of Canada states, “Canadian exports are projected to remain below their pre-recession peak until the beginning of 2014, reflecting the dynamics of foreign demand and ongoing competitiveness challenges, including the persistent strength of the Canadian dollar.”
How can our central bank address this problem? Professor Moffatt and I agree that there is some room to cut the overnight interest rate below 1 per cent, but that doing so might not significantly alter the exchange rate.
Prof. Moffatt writes, “Perhaps he wants something more unconventional, such as the Bank directly intervening in foreign exchange markets by selling Canadian dollars.” That is indeed what I have been unsuccessfully advocating for three years.
And this proposal is not particularly “unconventional.” During the past two years, the Japanese, Swiss and Brazilian central banks have intervened in foreign exchange markets to moderate their overvalued national currencies.
Prof. Moffatt objects that such action “would violate the Bank’s current mandate, as set by the federal government.” This argument discards the mythology that the central bank is completely independent and implicitly acknowledges that the federal government could amend its mandate.
The preamble to the Bank of Canada Act envisions a mandate “to control and protect the external value of the national monetary unit and to mitigate by its influence fluctuations in the general level of production, trade, prices and employment.” But since 1991, federal finance ministers have instead ratified a narrow focus on inflation targeting to the exclusion of all other objectives.
As Prof. Moffatt argues, the rationale for lower interest rates in Canada is to reduce unemployment. Many central banks, including the U.S. Federal Reserve, have explicit mandates to maximize employment.
During the global financial crisis, the Bank of Canada took action to stabilize our financial system. As chair of the Financial Stability Board, Governor Mark Carney is engaged in international financial regulation and oversight.
Rather than continuing to pretend that the central bank can or should only manage inflation, the federal government should broaden its mandate to include employment, the exchange rate and financial stability. A broader mandate for the Bank of Canada would be entirely consistent with Parliament’s intention when it first established this important public institution.