Poloz Highlights: Trump Impact, Strong Dollar and Divergence

  • Bank of Canada governor says time to rebuild economic models
  • We wouldn’t expect to follow U.S. policy at this stage: Poloz

Bank of Canada Governor Stephen Poloz gave a speech in Edmonton Tuesday in which he said economic modeling isn’t an exact science, and the nature of the uncertainty means there’s plenty of room for judgment in monetary-policy making.

Here are the highlights of what Poloz said in the speech, as well as in the Q&A session and press conference that followed -- where most questions focused on the impact of President Donald Trump’s policies, and obstacles to Canada’s recovery:

Economic Divergence

“A whole year ago I gave a speech in January and it was about the coming policy divergence and that still holds.

“In the U.S. case they are reasonably close to full capacity. The U.S. is out in front of everybody. Usually exchange rates follow that. So all I was doing a couple of weeks ago was reminding people we do have excess capacity, that in fact the rise in the U.S. dollar is against all currencies and even if Canada holds steady, it means that Canada is rising against a lot of other currencies. That’s an important headwind.”

“Long story short, we’re still quite some ways behind the U.S. economy so divergence in our policies is exactly what we would expect to see. We would not expect to see Canada following the U.S. at this stage in terms of monetary policy.”

Excess Capacity

“While we project that inflation will be sustainably at target around the middle of next year, we are well aware that the lingering aftermath of the crisis has left the Canadian economy with persistent excess capacity, and inflation has been in the lower half of our target range for some time.”

Uncertainty and Modeling

“The uncertainty in economic models makes it ill-advised to reduce the conduct of monetary policy to a simple mechanical rule. The fact that there are so many sources of uncertainty, some of which cannot be quantified, makes the risk-management exercise highly judgmental.”

Uncertainty and Trump

On other potential U.S. trade measures “we have put them into what we call the risk category. We can’t model them without knowing what they will be, and frankly even when we know what they are, they will be very complex questions.”

“Different companies will adapt differently,” he said, adding that some companies may
accept lower profit margins, while others may choose to invest in larger U.S.
operations. “Uncertainty has risen in the wake of the election and that’s likely to feed through to investment thinking. Usually uncertainty causes investment to hesitate or slow
down.”

“So far the surveys suggest otherwise, that there is a certain amount of positive sentiment
percolating out there, but we aren’t sure if that means companies are ready to
invest period, or invest in Canada or invest in their U.S. operations.”

Trump Effect

“For us this is a question of not really knowing what’s to come.”

“The analysis of the fiscal actions certainly showed a meaningful impact on the U.S. economy. But one of the reasons why we went to this trouble was to show how the analysis of this effect on Canada isn’t automatic. And so in fact, there are a number of offsets that
prevent much of that action to spill over on the Canadian economy,” he said, citing as examples the Buy American policy and rules on infrastructure spending.

“But some that are less obvious perhaps are the fact that since the new administration entered the scene we’ve had a pretty good backup in global bond yields. That’s affecting
our mortgage rates already, which is already if you like a source of slowing in
the Canadian economy, which is actually quite premature given that we have so
much excess capacity compared to the U.S. economy, which is somewhere near full
employment.”

Currency Headwind

“The U.S. dollar has risen, taking the Canadian dollar with it, so against other currencies the Canadian dollar is getting stronger, quite a bit stronger, and that of course
is another headwind for our exports.”

“Taking these kind of offsetting effects into account, a shock on the fiscal side in the U.S.,” based on Bank of Canada modeling has an “almost nonexistent effect on Canada.”

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