, interest rates rose because markets perceived that the associated exchange rate depreciation would loop back into inflation pressures, forcing the bank to tighten policy eventually. with the benefit of hindsight, it is likely that this market dynamic reflected the fact that domestic inflation expectations had not yet become anchored by the bank ’ s new inflationtargeting policy, which in turn made it difficult to keep one - time relative price effects on inflation distinct from the underlying trend in inflation. this is in sharp contrast to our most recent experience, where well - anchored inflation expectations have enabled the bank to “ look through ” the temporary increase in inflation caused by a weaker currency and actually cut interest rates to cushion the blow to the economy from falling oil prices. meanwhile, fiscal policy was tightened sufficiently to generate a surplus, and fiscal debt as a share of gdp began a long decline that would be interrupted only by the global financial crisis and the ensuing global recession. as a consequence, federal government debt as a share of gdp is around half what it was at its peak in the mid - 1990s. accordingly, at the risk of oversimplification, we can characterize the history of canada ’ s monetary / fiscal policy mix as follows. when doug was preparing his innis lecture, we had tight monetary policy and easy fiscal policy. over the following 10 years, fiscal policy gradually tightened, and monetary policy took this trend into account while pursuing its inflation targets. then, from the late - 1990s until the global financial crisis, fiscal surpluses were generally the norm, and monetary policy remained focused on keeping inflation close to target. in the aftermath of the global financial crisis, of course, the g20 countries undertook a coordinated fiscal easing, with many easing monetary policy as well. starting in 2010, however, with the worst effects of the crisis behind us, canada ’ s fiscal policy gradually moved back into consolidation mode. even so, the legacy effects of the financial crisis have lingered in many countries, and canada ’ s export recovery has been halting at best. accordingly, monetary policy has remained very easy in order to keep inflation near its target. thus, in broad strokes, over 30 years, canada ’ s policy mix moved from tight monetary / easy fiscal to neutral / neutral and then to easy monetary / tight fiscal, until the fiscal adjustments made in 2016, just at the time of writing. bis central bankers ’ speeches this quick historical sketch raises some obvious questions about the mix of monetary and fiscal policies and the consequences for debt dynamics,

canada staff working paper no. 2016 - 3. leeper, e. and c. leith. 2016. “ understanding inflation as a joint monetary - fiscal phenomenon. ” national bureau of economic research working paper no. 21867. murchison, s. and a. rennison. 2006. “ totem : the bank of canada ’ s new quarterly projection model. ” bank of canada technical report no. 97. pichette, l., p. st - amant, b. tomlin and k. anoma. 2015. “ measuring potential output at the bank of canada : the extended multivariate filter and the integrated framework. ” bank of canada staff discussion paper no. 2015 - 1. poloz, s. s. 2014. “ integrating uncertainty and monetary policy - making : a practitioner ’ s perspective. ” bank of canada staff discussion paper no. 2014 - 6. purvis, d. 1985. “ public sector deficits, international capital movements, and the domestic economy : the medium - term is the message. ” canadian journal of economics 18 : 723 – 42. rose, d. and j. selody. 1985. “ the structure of the small annual model. ” bank of canada technical report no. 40. bis central bankers ’ speeches chart 1 : inflation in canada as measured by total cpi, 1970 – 2015 year - over - year percentage change, annual data % source : statistics canada chart 2 : last observation : 2015 interest rates in canada, 1970 – 2015 per cent, annual data % nominal interest rate - 5 real interest rate note : nominal interest rate is the annual average of the 3 - month treasury bill yield ( annualized yield ). real interest rate is the nominal interest rate minus the inflation rate measured by total cpi. sources : statistics canada and bank of canada calculations last observation : 2015 bis central bankers ’ speeches chart 3 : budgetary balance in canada ( federal ), 1970 – 2015 as a per cent of gdp, annual data % - 2 - 4 - 6 - 8 - 10 note : negative numbers represent a deficit, while positive numbers represent a surplus. sources : finance canada fiscal reference tables 2015 for fiscal years 1970 – 71 to 2014 – 15, federal budget 2016 for 2015 – chart 4 : last observation : 2015 – 16 federal government debt in canada, 1970 – 2015 as a per cent of gdp, annual data % sources : finance canada fiscal reference tables 2015 for fiscal years 1970 – 71 to 2014 -