Burning Questions: Is Ottawa Finally About To Take Real Estate Bubbles Seriously?

Christopher Ragan, founding director of McGill University’s Max Bell School of Public Policy and former central bank adviser, said in an essay published this week by this Hub that perhaps Freeland and Macklem disagree on how the central bank should conduct policy, rather than forming a united front which they presented to the public.

“Perhaps that is why the joint statement is so much longer than the previous ones, with these various other topics mentioned,” he said. “Perhaps their inclusion was insisted by the minister as a ‘shot’ through the arc ‘of the bank, a warning that if it doesn’t change its ways, the government may be ready to step in.”

Stephen Poloz, the former governor, said in 2014 that too many people had come to view the central bank’s inflation target as a cap, not the midpoint of a comfort zone of 1 % to 3%. It tended to favor growth, leaving interest rates low even as the unemployment rate fell below six percent, a rating that was now associated with “fair” economic growth. An unemployment rate below this was seen as a harbinger of price spikes.

The unemployment rate would drop to 5.4% and was still comfortably below 6% when the COVID-19 pandemic changed everything in March 2020. Some economists have insisted Poloz is playing with fire, but inflation remained under control. A narrow reading of his mandate could have resulted in higher interest rates. But Poloz used the flexibility he had to take a calculated risk. As a result, he broadened the definition of what was possible, at least under the right conditions.

“The bank has learned something from this,” Macklem said during the interview, which took place at the central bank’s headquarters in Ottawa on December 15.

Poloz and Macklem both contributed to the research that persuaded Brian Mulroney’s government to endorse an inflation target three decades ago. Both were senior economists at Western University in London, Ont., Who earned their doctorates amid the double-digit inflation of the late 1970s and early 1980s. This period informed the early emphasis on removing the cost of goods and services.

But as the threat of chronic inflation receded, the central bank focused on maintaining a narrow “output gap,” the difference between real gross domestic product and the Bank of Canada’s estimate. the non-inflationary speed limit of the Canadian economy.

“Inflation targeting has never been a mechanical exercise,” Macklem said. “It was never just about inflation. Employment, the output gap have always been an important part of the framework. This new mandate spells it out clearly. It ratifies what we have done.

The Great Recession was a game-changer

If the Bank of Canada’s new five-year term is more chaotic, it’s because the world is more chaotic than it was a few decades ago, when central bankers bragged about designing the Great Moderation and that political scientists were seriously talking about the end of history.

Central bankers believed in a “divine coincidence,” the statistically strong, but somewhat mysterious, correlation between low inflation and low unemployment. Politicians have come to accept that central bankers are left alone, like judges, to do what they need to do without interference. Central bankers have protected themselves against interference by being careful about what they say and sticking to their mandates.

The Great Recession was a game changer. He showed that by focusing on inflation, policymakers brought into play other important variables, including much of what happens in financial markets. The political response to the financial crisis of 2008 and 2009 was weak, forcing central banks to play an inordinate role, which exposed them to political pressures that have not abated.

Many of the rules of thumb on which inflation targeting is based no longer hold, while new research suggests that variables such as inequality play an important role in economic stability and, therefore, the policies needed to achieve this. expensive balance between inflation and growth. When it comes to climate change, every major economy has signaled its intention to take a holistic approach to what most see as an existential threat.

Given all of this, it is unrealistic to think that the Bank of Canada would be left alone to monitor the Consumer Price Index. There are a lot of topics in the mandate because central banks are central players in a lot of the pending discussions. It is better to be honest about it than to pretend otherwise.

“It is important that the goals of monetary policy have political legitimacy, that they reflect the will of the people as reflected in their elected governments,” Macklem said. “It is precisely by agreeing on a clear mandate that it makes it easier for the Bank of Canada to preserve its independence and pursue its objectives.”

Financial imbalances

Rather than the promise to probe full employment, the new mandate commitment warranting further discussion is this: “The government and the bank recognize that a low interest rate environment may be more conducive to financial imbalances. In this context, the government will continue to work with all relevant federal agencies to ensure that Canada’s provisions for financial regulation and supervision are fit for purpose and will consider changes where necessary. “

Macklem’s margin of error is small here. The Bank of Canada’s benchmark interest rate was 2.75% when the Consumer Price Index last tested 5% in early 2003. It raised interest rates by half a point to slow growth. A few months later, when it realized that it was ahead of itself, the central bank lowered interest rates to 2.75%.

The target rate is currently 0.25% and was only 1.75% at the start of the pandemic. Economic and financial conditions have changed so much over the past two decades that the ceiling on borrowing costs is likely to remain uncomfortably close to zero.

This means that the controversial central bank bond-buying program will almost certainly be back when the economy goes into recession, as cutting the benchmark interest rate from an already low level will not provide enough support. stimulus to turn the economy around. As a result, the housing market will remain dangerously foamy unless policymakers offset the effects of ultra-low borrowing costs.

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