and to tap lower - cost supplies. these global developments, while clearly yielding benefits for canada, have also necessitated adjustments involving significant shifts among economic sectors, and thus shifts in employment, but also new opportunities for growth. higher prices for energy and other commodities, the appreciation of the canadian dollar, the opening of new markets, and lower import costs have implications for firms and individuals across canada. i'll return to this point later. but first, i'd like to talk about what these developments mean for the bank of canada and for the conduct of monetary policy. the monetary policy framework under the bank of canada act, the bank is required to mitigate " fluctuations in the general level of production, trade, prices and employment, so far as may be possible within the scope of monetary action, and generally to promote the economic and financial welfare of canada. " to achieve this goal, we need a clear, effective policy framework, one that gives canadians confidence in the value of their money and contributes to strong economic performance and a sound financial system. the two key components of our monetary policy framework are an inflation target and a floating exchange rate. these components work hand in hand, and indeed reinforce each other, to facilitate adjustment to economic developments. let me elaborate. to achieve the inflation target of 2 per cent, the bank aims to maintain a balance between the aggregate demand for and supply of goods and services. when aggregate supply and demand are in balance, the economy can operate at its full potential, and inflation stays low. the bank aims to achieve this balance by raising interest rates when aggregate demand pushes the economy against the limits of its capacity and, in a symmetric fashion, by lowering interest rates when demand weakens. inflation control facilitates adjustment to economic developments in two ways. first, when inflation stays close to the 2 per cent target, expectations about future inflation become anchored. firms and individuals can then read price signals more clearly and thus make sound long - term economic decisions, which is especially important during times of rapid change. second, when aggregate supply and demand are in balance, and inflation is contained, economic resources can be more effectively reallocated from sectors where demand is relatively weak to sectors where demand is relatively strong. this is especially important at times, like the present, when there are large movements in relative prices and changes in the terms of trade. so far, i have focused on the inflation target. the other key component of canada's monetary policy framework is a flexible exchange rate. the

bank of canada does not have a target or a preferred level for the canadian dollar. but we do monitor the exchange rate closely, and we look for information that can be gleaned from movements in the currency to help us interpret and assess the implications for aggregate demand in canada. together with the inflation target, the flexible exchange rate works to facilitate economic adjustment. how? put simply, movements in the exchange rate send appropriate signals to businesses, helping them to allocate capital and labour to the most efficient uses. now, in formulating monetary policy, we at the bank need to understand the underlying reasons for a currency movement. understanding these reasons allows us to estimate the net effect of the currency movement on aggregate demand and, in this way, to make appropriate monetary policy decisions. we've discussed this subject in past speeches and, more recently, in the autumn 2005 bank of canada review. so i will be brief today. in principle, there are two types of exchange rate movement : " type one, " those that stem from changes in the demand for canadian goods and services, and " type two, " those that do not. an example of a type one movement relates to the strengthening global economy, which, as noted, has led to a substantial increase in world commodity prices and to strong foreign demand for canadian products, especially raw materials. this development represents a direct increase in canadian aggregate demand. the associated appreciation of the canadian dollar has dampened the increase in demand and helped to facilitate the adjustment of the canadian economy by encouraging a shift in activity towards canada's commodity - exporting sector. to the extent that the dampening effect on demand exactly offsets the direct increase in demand, there would be no need for a policy response. a type two exchange rate movement does not reflect a change in the aggregate demand for canadian goods and services. instead, it may reflect a rebalancing of portfolios, that is, a change in foreign demand for canadian financial assets or a change in canadian demand for foreign financial assets. however, the exchange rate movement itself has an impact on the demand for canadian goods and services. when this movement persists, other things being equal, there would be a need for an offsetting change in monetary policy. a good example of a type two exchange rate movement was the appreciation of the u. s. dollar in the late 1990s when global investors, influenced by what they saw as robust prospects for the american economy, sought u. s. financial assets