Waning Power of Rates Means New Tools Needed, Wilkins Says

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  • Household incomes more prone to fall in low growth era
  • Fiscal policy can be powerful tool to boost growth: Wilkins

Slowing growth is increasing the risks to the global economy, even as it makes monetary policy less effective, Bank of Canada Senior Deputy Governor Carolyn Wilkins said.

A prolonged slowdown in potential growth -- driven by an aging population and other structural factors -- threatens to aggravate risks to the financial system, in part by making investors overreach for returns, while making households more vulnerable to economic shocks, Wilkins said Wednesday in London. Lower real interest rates also make it more difficult for policy makers to respond to the new challenges, she said.

“Monetary policy is not well suited to deal with structural problems, and today’s challenges go far beyond temporary shocks,” Wilkins said. “Fiscal policy can be a powerful tool to boost growth, from both the demand and supply sides.”

To watch Wilkins’s speech and Q&A in full, click here.


In a speech titled “Slow for Long and Financial Stability,” Wilkins outlined in detail why low growth and interest rates pose risks for households, investors and policy makers and warned that central bankers lack many of the answers.

“The scope for monetary policy to offset negative demand shocks will be more limited as we face a lower neutral rate,” Wilkins said, adding interest rates in Canada are already “quite stimulative.”

‘Question Marks’

Bank of Canada policy makers highlighted drags on the recovery in their rate decision last week, saying risks to the inflation profile have tilted to the downside since July. Wilkins elaborated on that Wednesday, pinning the shift in the outlook to weakness in exports.

“Over time, you get an accumulation of data that lead you to think that, well maybe, there is a little bit of a tilt,” she said, responding to a question after her speech. “The source of that tilt is really coming from question marks we have about exports, which we’re digging into right now, and we’ll have an update to our projection October 19th.”

Governor Stephen Poloz and his colleagues said Sept. 7 that while recent strength in exports is encouraging, “the ground lost over previous months” means economic growth may be weaker than the bank forecast in July.

Neutral Rates

Potential global economic growth has fallen to about 3 percent this year from 5 percent in 2005, or about $1.5 trillion in foregone output this year, she said. That has also pushed down the real interest rate that could keep Canada’s economy in long-term balance to about 1.25 percent from about 3 percent in the early 2000s, meaning the Ottawa-based central bank’s current 0.5 percent policy rate is packing less of a punch.

Wilkins also said growth may be supported by a strengthening U.S. economy and by fiscal stimulus in Canada. Prime Minister Justin Trudeau expanded deficit spending in this year’s budget.

Slower global potential growth also suggests there will be more periods when a central bank hits rock bottom levels on interest rates, and more periods when household income declines, Wilkins said.

Lower Bound

“A lower neutral rate also makes it more likely that interest rates will be constrained by the effective lower bound, meaning monetary policy will have less scope to support income growth during periods of economic weakness,” she said.

That means governments need to take a more active role in promoting growth, including making infrastructure investments and structural reforms.

“We shouldn’t count on monetary policy to solve everything,” she said.

The Bank of Canada’s main goal of keeping inflation at 2 percent is up for renewal this year, and Wilkins said the bar for change is high even after a debate about the “pros and cons” of raising the target higher.

Higher inflation makes it easier to avoid hitting the lower bound on interest rates, and eases downward pressure on wages when demand slows, Wilkins said. The costs include the erosion of the purchasing power of seniors on fixed incomes and greater volatility in consumer prices, she said.

“The bar is pretty high to change something for Canada,” Wilkins said. “And we should be in a position to have something for everybody by the end of the year.”