The Bank of Canada and Alberta’s boom

In the Globe and Mail it is reported:

A flurry of increases in the past month has sent Canadian mortgage rates to their highest level in more than five years, and consumers shouldn’t expect a return to the low interest rates they enjoyed in the first half of the decade.

The story quotes Benjamin Tal of CIBC World Markets, commenting on the driver of this bus – the Bank of Canada’s anti-inflationary zeal:

“Canada is actually not doing great if you take Alberta out of the story. Quite frankly, if there was a Bank of Canada minus Alberta, it would not be talking about higher interest rates … and might even be suggesting rates should be going down.”

This is a double-whammy for the rest of Canada, already adversely affected by rising energy costs, for which Alberta is the primary beneficiary. This spurs Chinese levels of economic growth in Alberta which puts upward pressure on prices. Alberta’s inflation rate is now about 5%, although there is no evidence this is cause for concern. It has, interestingly, led to some perverse economic policies in labour market as temporary foreign workers have been flown in, rather than letting the market work by having wages increase (so much for letting “the market” decide).

Anyway, as a result, the Bank of Canada starts making noises about inflation, even though, as Tal notes, this is essentially an Alberta issue (to the extent that it is an issue at all) and the current national inflation rate is 2.5%, which is within the Bank’s own band of 1-3%. Back when inflation rates were on the low side of the target range, the Bank did not signal to the markets that it was about to lower interest rates (in the jargon, it behaves asymmetrically). The Bank, of course, only controls very short-term rates (ie. overnight rates) but these ripple through the rest of the interest rates in the financial system. So the signal that the Bank may increase rates has already led to increased rates for mortgages and other short- and medium-term loans.

So it’s Alberta’s party, the Bank wants to take away the punch bowl, and most of us haven’t even taken off our jackets yet. Here is where I disclose my conflict of interest: I have to renew my mortgage in a few months time. Back in 2004, I was able to lock in for three years at a sweet rate of 4.3%; now I’m looking at renewing at 6% or more, and every ripple the Bank sends through the markets is costing me money, baby.

A huge problem in this is that raising interest rates is the bluntest instrument out there, but the only one the Bank has. And as the saying goes, to a child with a hammer, everything looks like a nail. But if this is just an Alberta problem, how about an Alberta solution, like slowing the growth of oil patch extraction? This would be a good thing on many fronts, as it would also help our greenhouse gas problem. And it is not like that oil is going anywhere; we should plan on extracting it at a sustainable rate, rather than blowing it in one shot like an 18-year-old who just got an inheritance.

Back at the CEA meetings there were some interesting discussions among us progressive economists about the Bank’s obsession with inflation. Their latest mantra-in-waiting is “targetting the price level”, which sounds a lot like the disaster that was “zero inflation” pursued by John Crow in the early 1990s. Brenda Spotton-Visano argued that the Bank really has no idea how monetary policy is transmitted through the economy, despite reams of technical papers based on computer models, but instead says it is about the perception of being “tough on inflation” to the financial markets who trade our dollar each day.

My prediction: David Dodge is leaving as Bank governor very soon. I’m betting he leaves some room for his successor to ride in and raise rates to demonstrate his (it will probably be a he, won’t it?) anti-inflationary street cred to the financial markets. But it is mostly a show, about the perceptions of Canada being inflation fighters. That is too bad, because it precludes a better policy of Canada pressing for full employment.


  • Not to defend them, but the Bank of Canada would say that the agreed target is the mid point of the 1-3 range, ie 2% and that 2.5% core is therefore above the target.

    This is from their web site:

    “The target range established by the Bank of Canada and the federal government within which the Bank aims to contain annual inflation as measured by the rate of change in the total CPI. The target range currently extends from 1 to 3 per cent. To keep inflation within this range, monetary policy needs to aim at the 2 per cent target midpoint over the six to eight quarters that are required for monetary policy to have most of its effect. By consistently aiming at 2 per cent for the 12-month rate of inflation, monetary policy can enhance the predictability of average inflation over longer time horizons.”

    2% is not really the same as 1-3% – which may be an issue worth taking up.

  • If these rate hikes were really about anything legitimate, like based on numbers, then I am sure the rates would not be hiked. It is the cultural space that envelops the BOC and relationship to the banks. As for arms length status to the ruling party, I would agree that it is precisely why Dodge is stepping down, that arm is not quite at the reach it should be. With the reform party on the hill you can expect that the big banks will be driving the boat called the BOC, even more than ever.

    In many ways I would agree with Andrew that at least Dodge is the devil we know. The banks have raised mortgage rates again today in anticipation of future hikes. Is this nothing more than a political ticket to print money for themselves and the numbers are spun out to justify these rate hikes. To me Dodge stepping down is the final capitulation that some kind of restraint mechanism on the banks is about to be let loose. The bankers are dancing quite a jig these days. But at what cost, the misread that is going on with the economy and the duality that hits us between east and west has some fairly wide and far reaching ramifications. Hopefully, the obliteration of the manufacturing base in ON and PQ will lead a voter charge against the rulers on the Federal hill. It would help if there was a bit more of a discourse built up around the provinces and such. Where is Ontario and its critique of the high interest rate/high dollar path that is being taken. How about quebec, it is like the two should be thinking about holding some kind of mini conference on the manufacturing blood-shed.

    I would shake my head but I the situation is beyond that.

  • Unless there’s a proposal for a separate currency for Alberta on the table (and there’s a case to be made for this), I don’t see the point of pursuing this line of thinking.

  • That small group of Alberta separatists in Red Deer creaming themselves over the idea notwithstanding, a separate currency for Alberta (as long as we’re blue sky-ing, anyway) isn’t that bad of an idea. When I was looking at the introduction of the Euro, I was struck by the fact that if you follow most of the arguments against the Euro, you’d also have to conclude that single currencies weren’t working too well for either Canada or the US.

    It would be interesting to see what slowing down the tar sands would do – back in my neck of the woods (the Peace) a new project is coming on board and everyone there wants it: farming hasn’t paid for over a decade. It’s true that slowing down the pace would keep the growth more manageable, and I’d support that slow-down if it were explicitly tied to an environmental strategy to review new tar sands projects and properly assess their environmental impact (in the past, reviews have been cursory and sloppily performed). But that’s going to be a tough sell in those northern towns that haven’t yet benefited from the boom.

  • In addition to the asymmetry of the Bank’s behaviour on the upper and lower end of the 1-3% inflation range, there is also a lot of political asymmetry. Dodge has distinguished himself by wading into public policy areas, but typically in a right-wing manner. Like how is encouraging P3s good policy from an inflation-fighting perspective, given that they are always more expensive than traditional public policy?

    If the supposedly-independent Bank of Canada governor weren’t just an extension of right-wing finance ministers dating back several decades, we would probably hear more calls for progressive fiscal policy that can potentially reduce prices.

    This includes increased funding for child care (which increases labour supply), better funding for public transit (which would reduce commute times and give workers more hours to supply to the labour market), public funcing for housing (which would directly reduce the cost of housing through direct intervention), and reduced tuition (reducing the cost of that item in the CPI directly). These areas of “deflationary spending” could create more slack in the economy, allowing the governor to reduce interest rates and allow more growth without the corresponding inflation.

    But hey, under the current political environment, a red-hot Alberta economy seems to suit right-wing governors and finance ministers just fine. As long as the workers getting higher wages aren’t unionized, the right shall prevail.

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