Canada and Inflation: Excellent Discussion

Good morning. Senior Deputy Governor Wilkins and I are pleased to be here to answer your questions about today’s interest rate announcement and our Monetary Policy Report (MPR).

Today, we raised our key policy rate by 25 basis points, in the context of an economy that is approaching full capacity and with inflation expected to reach the 2 per cent target within the next year.

Before we turn to your questions, let me offer some insights into the deliberations of Governing Council.

Economic data have been encouraging over the past few months, globally and especially for Canada. We acknowledged this positive trend in our April MPR and in our May 24 press release, while noting concern about the sustainability of growth because of its composition, as well as US-based policy uncertainties. While uncertainties remain, delays in decision making in the United States seem to have moved some of those concerns more into the background. The Bank’s latest Business Outlook Survey, for example, finds very strong business sentiment, particularly for investment and hiring intentions, despite a lack of clarity about future US policies.

Since April, we have also seen further evidence of a broadening of growth in Canada. Along with stronger-than-expected growth, this has bolstered Governing Council’s confidence in the outlook for the economy and inflation. The economy is absorbing excess capacity more rapidly than we projected in April, and it now appears that the output gap will close around the end of this year.

That will nevertheless leave some slack in the labour market. As output growth continues to exceed potential, we expect companies to invest in additional capacity and draw from this slack in the labour market, thereby expanding potential output further. This process is difficult to forecast but is likely to become increasingly evident as we approach full potential. This is an important reason why monetary policy is not on a predetermined path. It will remain highly data-dependent as we move forward. One key indicator of progress will continue to be wage inflation, which has shown signs of a pickup in recent months but remains restrained by the lingering effects of the adjustment to low oil prices.

Meanwhile, inflation has continued to fluctuate in the bottom half of our target range. This has prompted a lively debate, not just in Canada but in many other countries, about the appropriate interest rate setting when economic growth is rapid but inflation is low. Governing Council examined this issue closely from two perspectives.

The first asks whether there are special factors that are temporarily pushing inflation lower, and we discuss this issue in a technical box in the MPR. Generally speaking, central banks prefer to look through temporary factors. Of course, our new core measures of inflation were developed to help us see through the noise in inflation data, but even these are not immune to temporary fluctuations.

After careful assessment of the evidence, Governing Council agreed that a significant portion of the recent softness in our measures of inflation should prove to be temporary. Nevertheless, even a one-time price change affects inflation for a year, simply because we gauge inflation on a year-over-year basis. Some temporary factors are themselves gradual rather than one-off, such as increased competition in retail food stores. This all serves to underscore the data-dependent nature of monetary policy.

All things considered, Governing Council judges that in the absence of temporary factors, inflation would be running at around 1.8 per cent, as excess capacity in Canada is estimated to account for an inflation shortfall of about 0.2 per cent. Accordingly, as the gap closes in the months ahead, we expect inflation to head toward 2 per cent, with the rate of convergence determined by how quickly these various temporary factors unwind.

Our projection shows a modest overshoot of the 2 per cent inflation target in 2019. This is a product of the dynamics of our model, but it is an important reminder that, while our target is 2 per cent, our control range is a symmetric
1 to 3 per cent. Having a target range acknowledges the uncertainty inherent in economic forecasting and inflation control. The chances of an overshoot will depend on how investment and potential output respond to tighter capacity constraints, a process that the Bank will monitor closely.

The second perspective on the low-inflation issue concerns the lags between monetary policy actions and their ultimate effects on inflation. It is worth remembering that it can take 18 to 24 months for a monetary policy action to have its full effect on inflation. This means that central banks must target future inflation by anticipating future deviations from target. And because inflation is measured with a lag, reacting only to the latest inflation data would be akin to driving while looking in the rear view mirror. In contrast, imagine a world where the Bank was able to anticipate all future movements in inflation, and adjust interest rates in advance to offset them and keep inflation exactly at 2 per cent. In such a case, it might appear to the casual observer that interest rates were being adjusted up or down for no reason.

Taking together the approaching closing of the output gap and our understanding of recent soft inflation readings, today’s increase in interest rates is clearly warranted. That being said, we will of course monitor the details of inflation carefully to determine the extent to which it remains appropriate to look through fluctuations in inflation.

Interest rates were lowered in 2015 in order to help the economy adjust to lower oil prices, and much of that adjustment is now behind us. While lower rates contributed to greater household financial vulnerabilities, enhanced macroprudential policies helped to mitigate these and will continue to do so. As the economy approaches full capacity, a higher policy rate in pursuit of our inflation target also serves to reinforce efforts to mitigate financial system vulnerabilities.

Governing Council acknowledges that the economy may be more sensitive to higher interest rates than in the past, given the accumulation of household debt. We will need to gauge carefully the effects of higher interest rates on the economy.

Future adjustments to the target for the overnight rate will be guided by incoming data as they inform the Bank’s inflation outlook, keeping in mind continued uncertainty and financial system vulnerabilities.

EUR/USD and Gold / Silver Ratios: Levels, Ranges, Targets




The exchange rate free float in the 1970’s went from currency pairs priced to Gold to interest rates. The 1970’s had a rough time to price currency pairs to interest rates because a brand new market was created and not known since the 1930’s. Yet in the 1930’s markets were still trading the various legacy Gold standard periods. How does markets just switch from 300 years of Gold Standard practices from its 1600’s beginnings. The next question was Gold Standards was a term like volatility or many of today’s generalized terms without proper definition or understanding, overbought / oversold, consolidation. Millions of general terms exist without definition.

Gold Standards are one aspect to the story as the world was and remains evenly divided between Gold Standard and Silver Standard currency pairs. Asia for example lives by and prices currency pairs to Silver. Mexico is priced to Silver while Europe is priced to Gold. Few currency pairs are priced as hybrids. JPY / USD as 0.008853 and MXN/USD as 0.05640 are classic Silver currency arrangements.

The trading methodology to tie the world together was Gold / Silver Ratios. High Gold Ratios translates as sell Europe currencies and buy Asia or vice versa. Current 77.0 Gold / Silver Ratios informs Europe currencies are far to high while Silver currency pairs far to low. Gold / Silver Ratios offer standard parameters against standard calculations and this situation won’t ever chamge as long as markets exist. Further, central bank’s ability to manipulate Gold / Silver Ratios is absent.

Bid and ask spreads were the main problem in the 1970’s but then the world tied together trades by Libor. Interest rate formulas like Gold / Silver Ratios are accompanied by set formulas inside set parameters and this calculation nor the parameters won’t change as long as markets trade.

While Gold / Silver Ratios and interest rates remain as the only trade vehicles to underlying exchange rate prices, books nor academic papers exist to understand the how part to the trade. Citi bank and the old Shearson Lehman manuals offer little to no hope to learn but both are good starts. Only 1 website in the world offers any resemblance to today’s interest rates.

The learn part must be accomplished by raw research, time, energy and desire. After 45 years of the free float, exchange rate knowledge remains not only sparse but interest rates and Gold / Silver Ratios knowledge is equally limited. Both beat any Statistic formulas on the planet and the calculations are far easier. Yet also at this stage of the game, the world isn’t interested in exchange rate, interest rate or Gold / Silver knowledge. Most published information is wrong or elementary anyway.

EUR/USD at 1.1389 and EUR/JPY at 128.68 sits at the day’s bottom. EUR/USD next stop is located at 1.1343 and 128.16 for EUR/JPY. EUR/USD remains overbought and heading lower.

AUD/USD and NZD/USD must break below at AUD 0.7730 then 0.7718 while NZD/USD must break 0.7325 then 0.7293 and 0.7262. AUD/USD big line break remains 0.7790 while NZD 0.7450.

Brian Twomey