align demand for domestically produced goods and services with the economy ’ s capacity to produce them. if aggregate demand is expected to exceed or fall short of the economy ’ s potential output, we typically raise or lower the policy interest rate to close the gap and keep cpi inflation on target. as much as we aim for low, stable and predictable inflation, there will always be sharp movements in cpi inflation. these movements are generally driven by volatility in the prices of a small number of goods and services. this volatility typically has a transitory impact on the rate of inflation ( most frequently, its effects dissipate within a year ). since the effects of monetary policy on demand have long and variable lags, the bank must look ahead to achieve our inflation target over our policy horizon. consequently, we “ look through ” short - lived price british columbia, vancouver, b. c., 1 november 2016 ) and the renewal of the inflation - control target : background information — october 2016 j. murray, “ measuring inflation : methodology and misconceptions ” ( speech to the certified general accountants of ontario, toronto, ontario, 18 september 2008 ). statistics canada worked closely with the bank to produce the new measures of core inflation. see “ consumer price index : the bank of canada's preferred measures of core inflation ” on statistics canada ’ s website. given the uncertainties around measuring the output gap and the timing of the impact of excess capacity on inflation, achieving the 2 per cent target and closing the gap may not, in practice, occur simultaneously. changes by forecasting cpi inflation and the output gap beyond the horizon of the impact of these price changes. 7 if we reflexively raised our policy rate whenever inflation was above target and lowered it whenever inflation was below target, we would end up reacting to a lot of temporary factors. 8 this would lead to what has been called “ instrument instability ” — like trying to steer a car by constantly overcorrecting one way and then the other. it would be counterproductive and would simply destabilize both inflation and real economic activity. for this reason, many central banks use core inflation measures, which are designed to help filter transitory deviations from cpi inflation and therefore serve as a useful operational guide for policy. such measures help us estimate where the underlying trend of inflation is relative to the target in the current month or quarter. they also help to corroborate other indicators of capacity pressures ( especially the output gap

and moved most closely with the output gap. in addition, all three were relatively effective at looking through sector - specific shocks. two of the measures — cpi - median and cpi - common — fell short on one criterion : they are relatively more difficult to explain and understand than cpix. i hope this speech and the supporting documentation available on the bank ’ s and statistics canada ’ s websites will help in that regard. nonetheless, all the new measures performed better than cpix for three main reasons. first, they are less influenced by sector - specific shocks and therefore more accurate. in episodes such as the sharp rise in auto insurance premiums in the early 2000s that i mentioned earlier, as well as the deflation in auto prices that started in 2007 and the run - up in meat prices in 2014, cpix was unable to filter out these transitory shocks ( chart 3 ). the new measures were relatively more effective at doing so. it is important to note, however, that no measure of core inflation can filter out every type of temporary shock that a central bank may wish to look through when conducting monetary policy. in an open economy like canada, for example, currency movements can have a profound impact on consumer prices. a movement in the exchange rate would have an effect on the level of prices for imports and domestic import - competing goods and the persistence of this effect would depend on the duration of the exchange rate movement, but its impact on the rate of inflation would be much shorter. thus, this exchange rate passthrough ( erpt ) effect would not warrant a policy response as long as inflation expectations remain well anchored. the impact of erpt does not typically reflect changes in the underlying trend of inflation, which is affected by the degree of excess capacity in the labour market and in the economy more broadly. 14 at the same time, most measures of core inflation tend to be affected by erpt in varying degrees because they are sensitive to the relatively broad - based price movements caused by erpt in canada. still, on average, these measures were found to have somewhat lower pass - through from the exchange rate compared with cpix. in particular, cpi - trim and cpi - common attach relatively more see l. savoie - chabot and m. khan, “ exchange rate pass - through to consumer prices : theory and recent evidence, ” bank of canada staff discussion paper no. 2015 - 9 ( october 2015 ). importance than cpix does to the prices of services, which are