November 27, 2012 - In the Financial Post today, MLI's Philip Cross writes about Mark Carney's departure from the Bank of Canada and says, "Carney's legacy as a sound steward of monetary policy has not yet stood the test of time." He explains why in the column copied below.
Cross is also quoted in The Globe and Mail today on Mark Carney's departure. In the column, "New Bank of Canada head to inherit a thorny situation," he says Mr. Carney should have raised interest rates by now. He has signalled the central bank's intention to do just that, but such a move is seen to be far off. He adds that not enough attention has been paid to the dangers of excessively low rates for a long period of time and low borrowing costs have spurred individuals and provincial governments to act "irresponsibly," all issues for the next governor. Click here to read The Globe and Mail column.
By Philip Cross, Financial Post, November 27, 2012
Carney's legacy as a sound steward of monetary policy has not yet stood the test of time
Mark Carney departs from the Bank of Canada with a sterling reputation based on its deft handling of the onset of the financial crisis and his recent ascension as head of the G20's Financial Stability Board. However, 2012 has proved that even for someone as exalted as Carney, words alone are not enough to change the behaviour of households and investors.
Carney was appointed governor of the Bank of Canada early in 2007, just before the global financial crisis began to unfold that summer, which then mutated into the global economic crisis of 2008, the most dangerous moment in economic history since the Great Depression.
Under Carney's leadership, the Bank of Canada's initial handling of the crisis was impeccable. It lowered interest rates to record low levels in response to the onset of the crisis and helped co-ordinate the global response of central banks that mitigated the risk of contagion.
Alone among the major industrialized nations, Canada's financial system emerged unscathed from the crisis, although this largely reflects steps taken by federal agencies before his ascension to governor, notably regulations by the Office of the Superintendent of Financial Institutions and the Department of Finance (which rejected proposed bank mergers). As the recovery unfolded, Canada's image as a safe haven helped to attract billions of dollars of investments from countries with more troubled financial systems.
However, recently Carney showed the limits of the bully pulpit, even one bathed in his aura. The bank has regularly scolded households for borrowing too much, when its record low interest rates created the very circumstances for record indebtedness. In the end, it was concrete actions taken by the Department of Finance and CMHC to tighten lending standards and shorten amortization periods that blew the speculative froth off the housing market.
Even then, households continued to borrow more for other durable goods, with auto sales at their highest level since the recession, as households continued to take advantage of low rates.
Carney may have worn out his welcome with corporate Canada by hectoring it for not spending enough and holding too much "dead money," as he inelegantly put it. In particular, he pointedly singled out the energy sector for not investing aggressively, citing the "massive opportunities" provided by emerging markets. The problem is, almost all of our energy exports go to the U.S., where prices for both oil and gas were much lower than elsewhere in the world and access was blocked by a lack of pipeline capacity, compounded by President Barack Obama's rejection of the Keystone XL pipeline.
The rapid growth of shale oil production in the U.S. added to the air of uncertainty. ARC Financial Corp of Calgary projects a 10% to 15% drop in cash flow for the oil and gas sector next year, making lower capital spending inevitable, no matter what the wishes of the central bank.
In these circumstances, it is not surprising that Carney's exhortations to spend more were met instead by project deferrals and cancellations.
Carney's legacy as a sound steward of monetary policy has not yet stood the test of time. After five years of record low interest rates, Carney has been reduced to words as the main tool of monetary policy. This reinforces the image of monetary policy being "out of bullets" in the minds of many.
A much more sophisticated critique of ultra-easy monetary policy was offered recently by former Bank of Canada deputy governor William White, who noted that while a central bank could never run out of ammunition, low interest rates were now causing more damage to certain areas of the economy than they were preventing elsewhere. His concerns centred on some sectors gorging themselves on debt while others, such as pension funds and insurance, were starved of capital due to low interest rates.
Carney was courageous in denouncing claims of so-called Dutch disease caused by high commodity prices, saying they were "unambiguously" good for Canada. Yet he was timid in explaining to Canadians the virtues of a high exchange rate, which probably was why he hesitated to raise interest rates.
Like Alan Greenspan, Carney has proven adept at implementing a stimulative monetary policy in response to shocks. Looking forward, as is always the case for central bankers, taking away the punch bowl after the party is getting started, by raising interest rates and unwinding the extraordinary stimulus of recent years, will prove the difficult part. When that is done, we will know the true legacy of Mark -Carney.
Philip Cross is research co-ordinator at the Macdonald-Laurier Institute and the former chief economic analyst at Statistics Canada.