Bank of Canada to Review The Monetary Policy Framework Ahead of 2021

While the Bank of Canada’s inflation-targeting regime has worked well, improvements should always be considered, the Bank of Canada maintains.  The central bank’s monetary policy framework, which includes a 2 percent inflation target, has come under increased scrutiny in recent months as the bank twice raised official interest rates even though inflation remains well below the target.

BY MAX SINGH

“While the framework has worked well in the past, improvements should always be considered – especially given the changing economic environment, the lessons learned from experience in Canada and elsewhere, and advances in academic research,” Bank of Canada Deputy Governor  Lawrence Schembri.

While the Bank of Canada’s inflation-targeting regime has worked well, improvements should always be considered, the Bank of Canada maintains.  The central bank’s monetary policy framework, which includes a 2 percent inflation target, has come under increased scrutiny in recent months as the bank twice raised official interest rates even though inflation remains well below the target.

“While the framework has worked well in the past, improvements should always be considered – especially given the changing economic environment, the lessons learned from experience in Canada and elsewhere, and advances in academic research,” Bank of Canada Deputy Governor Lawrence Schembri said.  The nation’s bank has historically used the five-year review of the monetary policy framework, which also includes a flexible exchange rate, to consider dimensions well beyond the relatively narrow scope of the joint inflation-control agreement and the goal of price stability.

The Bank of Canada will assess a broad range of monetary policy frameworks ahead of the renewal in 2021 of the inflation-control agreement, a joint agreement between the federal government and the Bank that is renewed every five years, Senior Deputy Governor Carolyn A. Wilkins said at McGill University’s Max Bell School of Public Policy in a 2018 conference and workshop.

“There is no doubt that our inflation-targeting framework has promoted the economic and financial well-being of Canadians,” said Senior Deputy Governor Wilkins. “A decade of experience in the post-crisis world, though, shows us it is not perfect. It is time to conduct a thorough review of the alternatives.”

The review will take into account two critical challenges of the post-crisis era: First, the Bank’s estimate of the nominal neutral interest rate is lower than before, so there is less conventional policy firepower to use in an economic downturn. Second, the lower neutral rate may encourage households and investors to take on excessive risk, leaving the economy exposed to boom-bust financial cycles.

The Bank’s research work plan will focus on a comprehensive side-by-side assessment of alternative frameworks. In her remarks, Wilkins discussed some outstanding questions regarding several alternatives, such as a higher target for inflation, a target path for the level of aggregate prices or nominal income, and a dual mandate

The Bank’s work plan will also focus on options to strengthen the Bank’s slate of unconventional policy tools that can be used if needed. In its work, the Bank will engage with academics and other central banks as well as a wide range of private sector stakeholders and interested Canadians.

“We need to keep it simple: focus on clear objectives that monetary policy can achieve, and assess how it affects people,” Senior Deputy Governor Wilkins said. “We will need to improve our methods to account for considerations such as distributional effects and financial stability. We also must ensure that the right supporting policy tools and measures are available in extraordinary circumstances.”

(Source – Bank of Canada.)

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