History provides no indication of where limits lie on governors engaging in public debate
The question as to what central bank “independence” means has arisen once more and not just in Canada. Bank of England Governor Mark Carney stepped into the Brexit debate and was accused of political interference. In India, the head of the central bank has decided not to seek re-appointment, with political controversy surrounding his tenure. When Bank of Canada Governor Stephen Poloz recently made comments relating to the federal budget he sparked debate over the bank’s independence.
This is far from a new issue. As early as the 1940s, Graham Towers, then the Bank of Canada’s governor, was accused of pandering to the government by keeping interest rates low, and other governors have skated near political controversy from time to time.
The principal reason for the ongoing controversy over central bank independence relates not to the bank’s role in determining what monetary policy is and how it should be implemented. True, hasty comments by government and the bank relating to the issue have occasionally confused public discussion. But where real uncertainty remains relates to the limits of a governor’s participation in non-monetary policy areas.
As I have noted in these pages before, the main questions surrounding bank-government relations concerning monetary policy have been answered. In 1941, then finance minister James Lorimer Ilsley made it clear that monetary policy was the government’s responsibility, while implementation of it, independently, was the Bank of Canada’s responsibility. Also, if there were a disagreement between the two, the governor must resign. Then, in 1961, a Bank of Canada Act amendment made it clear that in any such situation the government would have to describe the nature of its disagreement publicly in writing. The remaining issue was to clarify what precisely is government monetary policy at any moment in time so that divergence from it can accurately be identified. This was achieved in 1991 with the adoption of inflation-rate targeting outlined in an agreement between the government and the bank.
When Poloz says, as he did in April, that “The Finance Minister, sorry, is not my boss,” interpretation is required. The minister clearly is his boss in deciding the primary objective of monetary policy. But, in implementing policy to achieve that objective, the minister is not the governor’s boss.
There is further confusion in the governor’s April statement to the press that “The Bank of Canada is a fully independent policy maker, and we operate with independence under a five-year agreement with the government on the inflation target.” No, the bank does not have the power to “make” monetary policy independently. If there emerged an irreconcilable difference between the finance minister and the bank at the time of negotiating new monetary policy — say, new inflation targets at the end of 2016 — the issue almost certainly would not be resolved by the minister abdicating his responsibility. It would be resolved by the governor resigning or not having his term renewed. At the same time, yes, the bank does have the responsibility to implement monetary policy independently.
Clarity on this point reduces the risk that governments will publicly shift the blame for unpopular monetary policies onto the Bank of Canada when conditions demand difficult and politically controversial decisions, such as raising interest rates, which could happen in the years ahead.
It is where a governor engages in public debate on non-monetary policy issues that bank independence becomes cloudy. History provides no clear indication of where limits lie. Of the nine governors the bank has had, some have seen fit to discuss non-monetary economic policy issues more than others. Poloz appears to be prepared to go further than some previous governors. After indicating indirectly his agreement with the budget’s economic forecast, he was quoted as saying “So, I can tell you that if for some reason we were in total disagreement with some of the analysis that was in the budget, we would say so in our analysis.” The tricky point is that disagreeing with the budget’s economic analysis means disagreeing with the government’s view of the economic impact of the budget measures themselves.
A budget is an important political document as well as an economic one. Disagreeing with it would probably lead the Opposition to argue that the minister of finance had lost the confidence of the central bank governor. Agreeing with it, on the other hand, could invite charges that the bank supports the governing party and its budget policy. In either situation the bank-finance relationship could become difficult, perhaps intolerable.
In the past, common sense judgements by governors and occasionally commendable tolerance on the part of finance ministers have made the system work fairly well. Maybe that is sufficient. But one thing is sure: The chances of avoiding conflict are enhanced if there is a clear understanding all around of the nature of the government-bank relationship and a recognition of the negative consequences for the country if a minister-governor conflict becomes mired in political debate.
Edward P. Neufeld is senior fellow at C.D. Howe Institute. He was formerly assistantdeputy minister of finance and executive vice president and chief economist at Royal Bank of Canada.
Published in the National Post
