C.D. Howe Institute’s Monetary Policy Council Calls for Bank of Canada to Maintain its Benchmark Interest Rate Target at 3.00 Percent

Toronto, June 5 — The C.D. Howe Institute’s Monetary Policy Council (MPC) today recommended that the Bank of Canada keep its target for the key overnight interest rate at 3.00 percent at its next announcement on June 10. The overnight rate is a very short-term money-market rate that the central bank targets for monetary policy purposes.

The MPC is a panel sponsored by the C.D. Howe Institute to provide an independent assessment of the monetary stance most appropriate for the Bank of Canada as it seeks to achieve its 2 percent inflation target. William Robson, the Institute’s President and CEO, chairs the Council.

The MPC’s formal recommendation is the median vote of its members. Three of the 11 members attending the meeting recommended lowering the target rate to 2.75, five recommended no change, and three recommended raising the rate (to 3.25 percent in one case and to 3.50 percent in two cases).

The division reflected uncertainty on several fronts. The short-term outlook for the Canadian economy was one area of debate: members favouring a lower overnight rate tended to emphasize recent indicators of weaker-than-expected output and the impact of a sluggish US economy, while members favouring a higher rate tended to emphasize the robust labour market and the boost to domestic demand from improvements in Canada’s terms of trade.

A second area of uncertainty was the lingering impact of stresses in credit markets, with some members emphasizing how much wider spreads continued to be than before last summer’s crisis, and others seeing the narrowing of spreads from their peaks as a sign that the monetary ease can and will stimulate the economy as it has in the past.

A third question that preoccupied the group was the state of global supply and demand, and in particular the outlook for commodity prices. Members favouring monetary ease tended to expect that flagging global demand would bring lower food and energy prices in its wake, while those favouring tightness noted that accelerating prices around the world suggested chronic supply constraints.

As the group looked further ahead, the central tendency of its recommendation was for a higher overnight rate. A number of members stressed the need for the Bank of Canada to focus on keeping total CPI inflation – rather than measures that reduce the weight given to food and energy prices – on target, and containing rises in inflation expectations. With the Canadian dollar no longer appreciating against the US dollar, with higher commodity prices feeding through into the CPI, and with the GST cut’s impact due to disappear from the 12-month inflation measure in 2009, many members thought that headline inflation would move to the top of the Bank’s target band around the end of the year. For those members, this prospect was inconsistent with a lower overnight rate.

The recommendation of the MPC is the median of the votes cast by individual members attending the session. The table shows the median votes and individual recommendations for the overnight rate at the June 10, 2008 setting and the July 15, 2008 setting, as well as the group’s views about the target in six to 12 months’ time.

The views and opinions expressed by the Council’s members are their own and do not necessarily reflect the views of the organizations with which they are affiliated, or those of the C.D. Howe Institute.

The MPC’s next vote will take place on July 10, 2008, prior to the Bank of Canada’s interest rate announcement on July 15, 2008.

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Contact: Kristine Gray — phone: 416-865-1904; e-mail: kgray@cdhowe.org.