Stephen S Poloz: Release of the Monetary Policy Report
Opening statement by Mr Stephen S Poloz, Governor of the Bank of Canada, at the press
conference following the release of the Monetary Policy Report, Ottawa, Ontario, 18 January
2017.
* * *
Good morning. Senior Deputy Governor Wilkins and I are happy to be here to answer your
questions about today's interest rate announcement and our Monetary Policy Report (MPR). Let
me elaborate on some selected issues that were central to the Governing Council's
deliberations.
The uncertainty we face as forecasters and policy-makers remains undiminished. The MPR
outlines a number of risks to our projection in both directions. In our discussions, Governing
Council was particularly concerned about the ramifications of US trade policy, because it is so
fundamental to the Canadian economy. But we cannot capture these in our projections because
they are simply unknown at this point.
We considered the possibility of not incorporating any US policy changes in our projection.
However, Governing Council felt that some form of fiscal stimulus was likely over our projection
horizon. Accordingly, we have made some reasonable initial assumptions about fiscal initiatives
-specifically, corporate and personal tax cuts that would raise the level of US GDP by about 0.5
per cent in 2018. This assumption could be recalibrated in either direction, but doing the work
now provides a framework for analyzing the situation as it evolves, while also giving us a better
balance of risks over the projection horizon.
According to our analysis, a US fiscal shock of this magnitude would probably have only small
effects here in Canada, boosting GDP by about 0.1 per cent by 2018. This is because there are
three important offsets that would limit the transmission of such a US fiscal shock to Canada.
First, a corporate tax cut in the United States could adversely affect Canadian export
competitiveness. This would mean lower exports and investment in Canada than otherwise.
Although our Business Outlook Survey (BOS) shows stronger investment intentions, some of
this may be coming from firms with cross-border operations considering new investments in the
United States rather than here in Canada.
Second, an important consequence of rising US optimism has been an increase in US bond
yields, some two-thirds of which has been imported into Canada- much more than in many
other countries. While this reaction is consistent with past correlations, it is at odds with
Canada's macroeconomic situation where there is material excess capacity, unlike the US
economy. This divergence in economic performance is mainly due to the setback Canada
endured when oil prices collapsed. Canadian 5-year mortgage rates have already risen in
response to higher bond yields, which will act as an additional drag on housing demand in
Canada.
Third, the US dollar has moved higher against most other currencies. Because the Canadian
dollar has held its own against the US dollar in this context, largely due to higher oil prices, it has
also been rising against most other currencies. This combination creates two additional
headwinds for Canadian exports: softer US exports will mean lower demand for Canadian
components of those US exports; and Canada will lose more competitiveness in the US market
compared with exporters from other countries.
With respect to our export forecast, today we are publishing two new staff discussion papers on
our modelling of exports. The main insight is that our previous model may have put too much
weight on developments in the US economy and not enough on other economies, both in terms
of demand growth and in terms of measures of competitiveness. Suffice it to say that the two
new models both explain most of the missing exports we have been talking about-amounting to
some $30 billion to $40 billion-and predict slower export growth in the future than our previous
model. The projections we are laying out today are similar to those from October, because we
were already testing the new models then and used them to form our judgement.
That said, our updated projection-which, I should remind you, is more conditional than usual-
shows the Canadian economy experiencing above- potential economic growth for the next
several quarters. This would imply a steady narrowing of Canada's excess capacity over the
projection horizon. While some of the recent data have been encouraging-I am thinking in
particular of the latest data on exports, employment and business sentiment in our BOS-they
do not support a forecast of above-potential growth by themselves. Rather, that projection
continues to rely on the expected effects of domestic fiscal stimulus. We have already seen
some early effects from the Canada Child Benefit on household spending, and there have been
some new measures introduced at the provincial level. But the main ingredient in our forecast is
the federal infrastructure program, which is well under way but not yet evident in the economic
indicators we are tracking. In fairness, the best place to see this is in the national accounts data,
which are so far available only through the third quarter of 2016.
All of this matters because persistent excess capacity puts downward pressure on inflation,
raising the risk that we will continue to fall short of our inflation target. We have recently
introduced three new measures of core inflation, each with its own strengths and weaknesses.
These are not target variables. Rather, they are analytical tools. They help us to see through
shocks and give a better guide to what is happening to the underlying trend in inflation. In
particular, they are much more correlated with excess capacity than total inflation is, simply
because total inflation is constantly being buffeted by temporary price disturbances.
Our new measures of core inflation are all below 2 per cent presently, weighed down by excess
capacity in the economy. In addition, food prices have been running below expectations in recent
months, due in part to enhanced competition at the retail level, something we will continue to
monitor. Looking ahead, Governing Council expects inflation to move up to close to 2 per cent in
the near term, mainly because of firmer energy prices. More importantly, our growth outlook
would imply a narrowing of the economy's excess capacity over the course of 2017 and into
2018. So in the absence of any new shocks we would expect all inflation measures to converge
sustainably on 2 per cent in the latter part of our projection horizon.
To conclude, in the context of a projection that is largely unchanged, the Bank's Governing
Council judges that the current stance of monetary policy is still appropriate and maintains the
target for the overnight rate at 1/2 per cent. Governing Council will continue to assess the impact
of ongoing developments, mindful of the significant uncertainties weighing on the outlook.
Thank you for your attention. Now, Senior Deputy Governor Wilkins and I would be happy to take
your questions.