The Bank of Canada is stepping up its campaign to counter the ascent of the Canadian dollar.
In remarks aimed at the international investors who seek profit in foreign exchange markets, Timothy Lane, one of Governor Mark Carney's most senior advisers, sent the strongest signal yet that tougher rhetoric about the currency's rise in the last couple of months is more than a bluff.
Speaking in Kingston Tuesday, Mr. Lane, the newest member of the Mr. Carney's Governing Council, reiterated that “persistent strength” in the loonie risked derailing Canada's fragile rebound from recession by hurting exporters who stand to gain from nascent signs of life in the U.S. economy.
Mr. Lane then upped the ante by signalling that the loonie's current trajectory could force the Bank of Canada to join the U.S. Federal Reserve, the Bank of England and other central banks in the business of creating money to buy government debt, an extreme tool of monetary policy called quantitative easing.
Those central banks adopted quantitative easing after dropping benchmark interest rates to record lows failed to ease the credit crunch. The Bank of Canada has been studying quantitative easing, but so far has opted to leave the untested policy instrument on the shelf.
Theoretically, printing money to buy Canadian government debt should weaken the currency by adding to the supply of loonies in the financial system. If that didn't work, the policy likely would at least ease the pain of a higher dollar. Again theoretically, the purchase of billions of dollars worth of bonds would reduce borrowing costs by dropping the yields on sovereign notes and bonds, which act as benchmarks for consumer and business credit.
“If a stronger dollar were to alter the path of projected inflation relative to that presented in our July Monetary Policy Report, we would need to take that into account,” Mr. Lane said in a speech to the Canadian Association for Business Economics.
“As we have said before, even though we are at the effective lower bound for our policy rate, we retain considerable flexibility through the use of unconventional monetary policy instruments, including quantitative easing,” Mr. Lane added, drawing a link between the dollar and quantitative easing for the first time.
Mr. Carney has struggled to convince some investors that he would tailor monetary policy to slow the loonie's rise. The Bank of Canada hasn't intervened in foreign exchange markets since 1998 and the institution has a reputation among investors as being allergic to interfering with the decisions of private investors.
If the idea was to take some of the steam of the Canadian dollar, Mr. Lane's first public comments since joining Mr. Carney's advisory committee in February appeared to have some effect.
The loonie fell almost a cent against its U.S. counterpart, tumbling to 92.1 U.S. cents. That's about 12 per cent higher than the start of the year and about 20 per cent higher than the four-year low reached in March.
The Canadian dollar was already weaker yesterday because of a drop in oil prices, but the descent accelerated after Mr. Lane's speech was published on the central bank's Web site.
“He's saying that if the dollar really becomes an issue the Bank of Canada won't just sit there and watch the parade – it will act,” said Sébastien Lavoie, an economist at Montreal-based Laurentian Bank Securities who used to work at the central bank. “That's why he reiterated the flexibility in unconventional tools.”
The Bank of Canada first raised a cautionary flag about the currency in early June after officials watched the dollar surge more than 9 per cent in May, the biggest monthly gain in modern times. The warning caused a 6.1 per cent drop in June, only to be followed by a 7.9 per cent jump in July.
The issue for the central bank is less the level of the currency itself, but instead what policy makers think that price will do to their efforts to keep inflation advancing at a rate of about 2 per cent a year -- a goal they are mandated to achieve by law.
In July, Mr. Carney predicted the Canadian economy would resume growing this quarter, and said the proper policy stance was to leave the benchmark interest rate at a record low of 0.25 per cent until the middle of next year, barring an unexpected burst of inflation.
The stronger currency risks forcing policy makers to recalibrate.
“Other things being equal, a persistently strong Canadian dollar would reduce real growth and delay a return to the inflation target,” Mr. Lane said.
