Transcript An Anatomy of the Bank of Canada Governor

An Anatomy of
Governor Stephen Poloz’s
Speeches for Canadian International Finance
J.D. Han
King’s University College
at Western University
January 10, 2016
Key Points and their Analysis
Listening to him speaking:
• http://www.bnn.ca/News/2016/1/7/Canadians-should-get-used-tolower-dollar-higher-inflation-Poloz-says.aspx
• http://www.theglobeandmail.com/report-onbusiness/economy/canadians-should-get-used-to-lower-dollar-higher
Worsening Canadian ‘Terms of Trade’
• “terms of trade” is the ratio of the prices a country receives for its
exports to the prices it pays for its imports.
• A falling terms of trade, on the other hand, means less export
revenues and more import payment, and thus less net income for the
country overall.
Weakness of Exports, and Canadian Dollars
• “Canada’s economy is directly affected by what is happening in China,
where a weaker appetite for resources is depressing prices for oil,
coal, copper and many of the key commodities that dominate this
country’s exports and investments.”
What else is contributing a Weak Canadian
dollar?
• Recall the theory below, and indicate what is changing for the
Canadian case:
Supply of FOREX
Trade Balance
Current Account
Financial Account
Above-the-Line BP
Balance
Changes in Official
FOREX Reserve
X
Capital Inflows
Demand for FOREX
M
Capital Outflows
X+ KI – (M+KO)>0 BP Surplus
X+KI – (M+KO) = BP Equilibrium
X+KI – (M+KO) <0 BP Deficits
Downward Pressures on FOREX rate
Upward Pressures on FOREX
rate
Official Reserves Down
Official Financial Inflows
Official Reserves UP
Official Financial Outflows
Question: Use the table above and explain which factors contribute to the current
depreciation of Canadian dollar. What government policies affect those factors?
Canadian Monetary Policy
• When U.S. interest rate is going up,
• Canadian interest rate is not going to be hiked up due to concern for
_______ domestic investment and rapid falling exports.
Poloz says that Canada may even go for negative interest rates.
Impacts on our International Investment Inbound and Outbound?
And the external value of Canadian dollars?
FOREX Rate has risen and will rise
• The external value of our Canadian dollar has fallen, and will keep
falling.
• Poloz hopes that this may help boost the domestic
___________investment through _______ interest rates, and boost
the international _____________ through the Marshall Lerner
condition.
Impacts of a Falling Canadian Dollar Value on
the Canadian Economy
• Short-run
-Exports and Imports
-Employment, National Income in the short-run
-Price; Inflation
• Long-run Impacts
-Exports and Imports
-Industry Structure and Productivities
-Employment and National Incomes
Short-run Impacts of a Falling Canadian Dollar
Value on the X-M
• Marshall Lerner Condition
A depreciation of the domestic currency (when FOREX rate or ‘e’ goes
up) may improve NX(Trade Balance) if
Elasticity of Export + (absolute value of) Elasticity of Imports > 1.
proof]
• X – M is in fact
• X – e M, where e is FOREX rate.
Differentiating both side by e, we get
dX/de – 1 – dM/de > 0
dX/de – dM/de > 1
Intuitively, when ‘e’ goes up by 1%, the left side is the benefits (X up
and M down); the right side is the cost (import price goes up by 1).
• Mr. Poloz says that in Canada, the Marshall Lerner condition is met
unlike some other country(such as U.S.)
• Bank of Canada let FOREX rate go as the Market dictates because a
cheaper Canadian dollar or a higher FOREX rate in Canada helps boost
Exports (quantity) and reduce Imports (quantity).
• dX/de may take longer than dM/de->
• ‘J Curve”
Increasing Payments for Imports may be the
first thing to be felt.
And “Pass-Through” Inflation
Domestic inflation rate = F(domestic excess demand pressure)+
G(world inflation rate + FOREX appreciation)
Pass Through
• Read Jose Campa and Linda Goldburg, “Exchange Rate Pass-through
into Import Prices”, RES (2005).
http://www.mitpressjournals.org/doi/pdf/10.1162/003465305775098
189
1) What is the ratio of d% of Import Prices/ d% of FOREX rates for
Canada for the short-term and the long-term respectively?
2) If the exchange rate changes by 35% in the Canadian economy,
what will be the change in import prices in the short-run?
• “The cost to the country’s economy is $50-billion a year or $1,500 per
person.”
What will happen to X-M in the long-run?
• The price faced by the International Buyers, say Americans, of
Canadian goods:
ef Pf/Pd in short-run
ef Pf /Pd in long-run.
Emprical works indicate that in the long-run,
Exchange Rates and Trade Balance may not be consistently related.
• Andrew Rose, “Roles of FOREX rates…: Does ML condition work?”,
JIE(1996)
http://ac.els-cdn.com/002219969190024Z/1-s2.0002219969190024Z-main.pdf?_tid=59637cf2-b82f-11e5-91a100000aab0f6c&acdnat=1452495100_b593fdeb5ab497420a3832e4001
5fbf1
• Andrew Rose, “Is there a J-curve?”, JME(1989)
http://www.sciencedirect.com/science/article/pii/0304393289900160
Then, where would the Long-term Growth
come in the Canadian economy?
• A falling Canadian dollar value may be a ‘shot in the arm’.
• Usually, a shot in the arm hampers efforts for an arduous search for
Long-term Change.
• How can a falling Canadian dollar with a low interest rate lead to a
rebuilding of the Canadian economy? What did he say?