in this volatile world, the best contribution that monetary policy can make is to keep inflation low, stable and predictable. the outlook for inflation in canada is importantly influenced by current manifestations of some of the longer - term trends i have mentioned. following the depths of the crisis, canadian domestic demand grew very strongly, supported by highly stimulative fiscal and monetary policy. now, aggregate demand is rebalancing towards business investment and net exports and away from government and household spending. however, the relative weakness in the u. s. economy, our under - representation in emerging markets, and our competitiveness challenges will likely weigh on export performance for some time. while underlying inflation is relatively subdued, the bank expects that sharp increases in energy prices ( when combined with ongoing changes in provincial indirect taxes ) will keep total cpi inflation above 3 per cent in the short term, as was the case in march, before it returns to the 2 per cent target by the middle of 2012. core inflation is expected to rise to 2 per cent over the same period, as excess supply in the economy is slowly absorbed, labour compensation growth remains modest, productivity recovers and inflation expectations remain well anchored. a 2 per cent increase in interest rates could require another 4 per cent of gdp fiscal adjustment for some countries. c. m. reinhart and k. rogoff, “ growth in a time of debt, ” american economic review 100, no. 2 ( may 2010 ) : 573 – 578. a. damodaran, “ into the abyss : what if nothing is risk free? ” ( 2010 ). available at : < http : / / pages. stern. nyu. edu / ~ adamodar / >. f. black, “ capital market equilibrium with restricted borrowing, ” journal of business 45, no. 3 ( 1972 ) : 444 – 455. bis central bankers ’ speeches data received since the april decision have generally supported the bank ’ s near - term outlook. recent inflation and employment have been modestly stronger ; auto sales and retail purchases have been a touch weaker. indicators have been consistent with continued, strong business investment. the possibility of greater momentum in household borrowing and spending in canada represents an upside risk to inflation in canada. the persistent strength of the canadian dollar could create even greater headwinds for our economy, putting additional downward pressure on inflation in canada. the bank ’ s 1 per cent target for the overnight rate leaves considerable monetary stimulus in place,

progress in a number of areas, but more needs to be done. for example, we identified the financial institutions and fmis that could have outsized impacts on the financial system if they failed, and we are subjecting them to more stringent regulation and supervision, including recovery and resolution planning. 23 central banks and international policy organizations have also worked to develop earlywarning indicators of risks to the global financial system. 24 while these are helpful as a starting point, we need to recognize their limitations, particularly if they rely on deviations from historical trends or threshold values. that is why it is important to push the analysis further to properly gauge the risk. stress tests are an excellent way to help us understand what could happen if financial institutions were subject to adverse events, such as a steep house price decline or a brexit vote. they also provide practical information about what might be needed to withstand and recover from these events. the bank of canada works with other organizations, such as osfi and the international monetary fund, to conduct regular stress - testing exercises of financial institutions and to improve our modelling techniques. 25 the unfinished business here is that models used for stress testing capture mainly firstround effects, with limited ability to identify spillovers that we know can end up being even more important. for example, while the bank ’ s current framework does capture second - round effects that could come from interbank exposures and asset fire sales, it could be improved. the bank, and others who conduct stress tests, could introduce the basel committee on banking supervision has developed quantitative metrics for identifying global systemically important banks ( g - sibs ) and a set of principles ( no quantitative metrics ) for assessing domestic systemically important banks ( d - sibs ) : “ global systemically important banks : updated assessment methodology and the higher loss absorbency requirement ” ( july 2013 ) and “ a framework for dealing with domestic systemically important banks ” ( october 2012 ). for example, see bank for international settlements, “ early warning indicators of banking crises : expanding the family ” ( march 2018 ) ; and t. duprey and t. roberts, “ a barometer of canadian financial system vulnerabilities, ” bank of canada staff analytical note no. 2017 - 24 ( december 2017 ). 25 k. anand, g. bedard - page and v. traclet, “ stress testing the canadian banking system : a system - wide approach, ” bank of canada financial system review (