C.D. Howe Institute’s Monetary Policy Council Urges Bank of Canada to Hold Overnight Rate at 1.00 Percent on September 7, 2011

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 recommendations for each announcement date are its median votes. The recommendations for an unchanged target on September 7 and at the following announcement in late October were virtually unanimous, most of the group seeing a continued low level of the overnight rate as appropriate, given the prevalence of disappointing indicators of demand and growth in most of the world in recent months. Most of the nine members attending the meeting called for an increase in the target over the six-to-12 month timeframe, consistent with a resumption of growth in Canada and abroad, and the need to move the overnight rate to a level consistent with stable 2-percent inflation in the longer term. One, however, called for a target of 1.00 percent in a year’s time, and five others called for a target below 2 percent at the same horizon – calls that largely reflected pessimism about setbacks arising from fiscal and financial-sector problems in Europe and the United States.

In addition to its focus on interpreting recent indicators of demand, activity and sentiment around the world, the meeting devoted considerable attention to the state of Canadian demand and output relative to the economy’s productive potential. Some members argued that Canada has had, and continues to have, a sizeable disinflationary output gap, which accommodative monetary policy should seek to close. Others argued, with varying degrees of emphasis, that potential output was not as high as it appeared before the slump, that it suffered from the demand shift during the slump, and it has been growing relatively slowly since the slump – in which case the disinflationary gap is small or perhaps non-existent, and the Bank of Canada should move more aggressively to prevent inflation running ahead of target.

In part, disagreements on this point reflected differing interpretations of labour market indicators and the amount of physical capital that was rendered, or revealed to be, obsolete after 2008. For the majority of members, however, evidence that the slowdown abroad has dampened Canadian demand, and the prospect of further such setbacks, made a convincing case for a slow and cautious return to a more normal overnight rate.

The views and opinions expressed by the participants 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 October 20, 2011, prior to the Bank of Canada’s interest rate announcement on October 25, 2011.

* * * * *

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