Our monetary policy may be wrong

January 20, 2016   ·   0 Comments

FOR SEVERAL YEARS NOW, the Bank of Canada has stuck to a monetary policy that calls for ever-lower interest rates, as a means of providing some needed economic stimulus.

Is it working? We don’t think so, and suspect that before too long at least some economists will join us in asserting that there should be a significant increase in lending rates.

Sure, that would likely put a bigger damper on the housing market than the recent decision to require bigger down payments on house purchases.

Snowbirds heading to Florida and other warmer climes have long been feeling the pinch as the Canadian dollar plunged from near parity with the U.S. dollar just a few years ago to today’s level below 70 U.S. cents.

However, you don’t have to go south of the border to feel the impact of a low loonie. Anyone who goes to a supermarket today and visits the shelves in search of fresh fruits and vegetables will find the prices at least 20 per cent above what they were a year ago. A report earlier this week told of one supermarket chain in Toronto wanting $9.99 for a cauliflower, and local shoppers have seen the price of tomatoes roughly double in recent weeks.

For some reason, this rampant inflation hasn’t yet shown up in the Consumer Price Index, which contended in mid-December that the overall increase in consumer prices between November 2014 and the same month in 2015 was a mere 1.4 per cent.

However, a closer look at the trends showed that prices for food purchased from restaurants had risen twice as fast, at 2.8 per cent, and that even then the cost of fresh vegetables had soared 10.9 per cent. The other big increases were for house and car insurance (10.1%) and electricity (4.2%).

All the big drops in consumer prices were related to world oil prices, which by then still hadn’t bottomed out. Gasoline cost 10.6% less, while natural gas prices were down 11.6% and fuel oil a whopping 17.6%.

What does that really mean to the average consumer? Well, if you’re a commuter who’s on a crash diet, inflation is no cause for concern, and if you heat your house with natural case or fuel oil the savings are substantial. But what about the poor folk who rely on electricity for home heating, are on fixed incomes and are on diets that call for good nutrition and lots of fresh fruits and vegetables?

Clearly, the main (only?) beneficiaries from the historically low interest rates are our exporters. Although normally you might add homeowners with mortgages to the list, the reality is that any savings in interest have been more than offset by the soaring cost of housing.

And although the loonie’s plunge has been blamed on the collapse in crude oil prices, another significant factor has been the monetary policy.

Not that many years ago, the Bank of Canada had a habit of setting its rates above those of the U.S. Federal Reserve. But in December, when the ‘Fed’ increased the borrowing rate to 0.5% from the record-low 0.25% where it had stayed for many months, the Bank of Canada didn’t follow suit and there was even talk of a 0% rate coming as an economic stimulus.

But as Globe and Mail writer Rob Carrick pointed out last weekend, any further rate cuts would push the loonie down even farther (some say it could drop to 59 U.S. cents) and by stimulating inflation would be bad for seniors, bad for consumer confidence, while hurting savers and warping young minds into thinking that interest rates are dangerous and will never rise. He said the action would also encourage more borrowing at a time when we have record levels of public and private debt,  would provide cover for banks to pad profits at the expense of clients, and would “recklessly stoke” the already overheated housing market.

On the other hand, a decision to raise the bank rate to a modest 1% or 2% would encourage foreign investment and likely see the loonie rise to something like 80 U.S. cents – a level still low enough to stimulate exports generally and the auto and auto parts industries in particular.

And while higher mortgage rates would be a problem, they could be offset by government action in the form of income tax exemptions.


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