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What Will It Take?

What Will It Take?
Profile photo of George Bragues

Canada’s real GDP grew 3.1% in 2010. According to a poll tabulated by The Economist magazine, the Canadian economy is expected to grow at a 2.6% rate in 2011. Inflation is currently running at 2.3%. Canadians are indebting themselves at unprecedented levels. Even by the orthodox standard provided by the Taylor rule, the central bank should be setting rates in the 3-4% range. Still, the Bank of Canada (BoC) persists in keeping its benchmark interest rate at 1%, a course it maintained in its latest monetary policy statement yesterday. One is left wondering: what will it take for the BoC to tighten monetary policy?

Canada’s central bank states that it is worried about escalating commodity prices, the appreciating Canadian dollar, and the European sovereign debt crisis. But though the BoC is much less influential in this respect than the US Federal Reserve, loose monetary policy will only fuel the commodity boom. The rising loonie, too, is having the beneficial effect of impelling exporting firms to invest in capital goods so as to increase their competitiveness.  As for the European situation, even the BoC has previously admitted that the potential impact on Canada’s economy is limited.

What we have here is a textbook case of why decisions about the price of credit should not be in the discretionary hands of government officials. As central banks typically do during the revival stage, the BoC is pursuing an easier money policy than market forces would dictate because it fears the political costs of appearing as an obstacle to a full recovery.  Yet all this does is set us up for another artificial boom.

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Profile photo of George Bragues

George Bragues teaches Business at the University of Guelph-Humber in Toronto, Canada.

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