toward 2021 : reviewing the monetary policy framework remarks by lawrence schembri deputy governor of the bank of canada manitoba association for business economists winnipeg, manitoba february 15, 2018 anchoring expectations : canada ’ s approach to price stability introduction thank you for the invitation to speak to you today here in the hometown of james coyne. mr. coyne, who died in 2012, was the governor of the bank of canada from 1955 to 1961. as governor, he stressed that price stability should be the primary function of monetary policy. that principle — price stability — is now the cornerstone of monetary policy frameworks around the world. in practice, it is achieved by maintaining inflation at a low, stable and predictable level. our mandate at the bank of canada ’ s is to “ promote the economic and financial welfare of canada. ” and, like former governor coyne, we believe that inflation control is the main contribution monetary policy can make to achieving that goal. our current monetary policy framework consists of an explicit inflation target and a flexible exchange rate. it was established in an agreement with the federal government in 1991 and, since 2001, has been renewed every five years. with this framework, we have anchored inflation expectations, achieved low and stable inflation, and promoted sustained employment and economic growth. three main factors have contributed to the framework ’ s credibility and success. first, we have a clear, simple and well - understood inflation target, whose focal point is 2 per cent. second, the framework has political legitimacy, is coherent with other public policies and is implemented with effective tools. and third, we have a formal review process for continually improving the framework that is i would like to thank robert amano and thomas carter for their help in preparing this speech. not for publication before 15 february 2018 13 : 30 eastern time widely admired by many of our peers and was cited as one of the factors that earned us the central bank of the year award we received recently. my speech today is the first in a series that my colleagues and i will be delivering over the next four years as we embark on our review of the framework leading up to the 2021 renewal of the inflation target. i ’ ll start with some background on our experience — and that of many other central banks — with inflation in the 1970s and 1980s and on the lessons we learned trying to control it. i ’ ll discuss how and why the bank adopted an inflation target for its monetary policy. i ’ ll review the impact of the policy on inflation, why it works

. after this disinflation, the bank renewed its search for a viable nominal anchor and considered various options. 4 we tried to identify one that would be effective, straightforward to operationalize and easy to communicate, and that the public would trust. in the late 1980s, then - governor john crow delivered several speeches in which he laid out an argument in favour of price stability itself as a long - run goal for monetary policy. 5 the inflation rate was then running at roughly 5 per cent. no one knew with certainty what rate best represented price stability. and economic theory was not yet developed enough to confidently predict the outcome of such a policy, if implemented. still, the idea of using the policy rate to directly target the rate of inflation held promise. at the time, only one other country in the world had attempted such a policy approach : new zealand adopted inflation targeting in 1990. canada became the second the following year when the bank and the department of finance announced an agreement on a monetary policy framework that set a path for reducing inflation. 6 the agreement gave the bank operational independence to use its statutory tools to achieve the inflation target, while at the same time acknowledging that “ a range of public policies, besides monetary policy, can make a significant contribution ” to controlling inflation. 7 3 the measure of the money supply targeted was m1, which includes its most liquid components : coins, cash and chequing accounts. the innovations that made it difficult to target were in both non - personal and personal banking. the years leading up to and following its abandonment in 1982 witnessed an exhaustive search for alternative, broader aggregates of the money supply that could be targeted instead, although a suitable replacement was not ultimately found. for an account of this search, see f. caramazza, d. hostland and s. poloz, “ the demand for money and the monetary policy process in canada, ” journal of policy modeling 12, no. 2 ( summer 1990 ) : 387 – 426. 4 these options included different monetary aggregates, along with nominal spending, the exchange rate and the price level. see p. duguay and d. longworth, “ macroeconomic models and policy making at the bank of canada, ” economic modelling 15, no. 3 ( july 1, 1998 ) : 357 – 75. 5 j. crow, “ the work of canadian monetary policy, ” the eric john hanson memorial lecture series ii ( winter 1988 ), department of economics, university of alberta