This article was originally published in Maclean's Magazine on March 21, 2005
Dodge, David (Interview)
DAVID DODGE SAYS SO OFTEN that the BANK OF CANADA 's goal is to keep inflation "low, stable and predictable" that, as the words trip off his tongue, they flow together, creating what seems like a single thought. Governor since February 2001, Dodge last week marked the 70th anniversary of the central bank. In a preamble to this exclusive interview, he pointed out that the bank, which among other responsibilities sets interest rates, is more open today than ever about how it goes about its business. "The day of the high priesthood of central bankers," the 61-year-old former federal mandarin says, "has come and gone."
Many Canadians believe the bank determines whether they're on the path to prosperity or to impoverishment. Are they right?
It's fair to say that through bad monetary policy we can do a lot of damage. Through good monetary policy we can establish at least the precondition for good economic performance, but that depends on much more than just good monetary policy.
The bank's objective is to keep inflation at two per cent. How do you know that that's the key to prosperity for Canadians?
Well, careful. It's a necessary but not sufficient condition. About the best contribution that monetary policy can make is to keep inflation low, stable and predictable, which mitigates the business cycle, number 1, and number 2 provides for the lowest possible interest rate structure over time.
The value of resale real estate in Canada has shot up faster than two per cent. Yet houses and other big ticket items aren't directly included in the inflation measure. Why not?
Our job is to preserve the purchasing power of money for the Canadian citizen out consuming. It's not to preserve the value of stocks or houses or artwork on the wall. That doesn't mean that asset prices don't contain some useful information. They do. We worry about how to incorporate that information into our view of what's likely to happen to price inflation going forward.
What's the impact of growing levels of household debt?
It's absolutely rational - and expected - that, with lower interest rates, the level of debt relative to current income would be higher. If interest rates were to move up 200 to 300 basis points, would people be in trouble? The answer is no, we would still have debt service ratios well below the average of the past 20 years.
What impact does volatility in the exchange rate have on inflation?
We couldn't actually target inflation if we didn't have a floating exchange rate. We would have to keep that exchange rate stable. That would mean we would have inflation that would be, at the moment, very high, because we've had a big improvement in our terms of trade. It is absolutely true that the Canada-U.S. exchange rate, one of the most stable bilateral exchange rates in the world, has been more volatile. That's largely due to uncertainties attendant upon the U.S. dollar, and of course we can't do much about that. But the strength in the exchange rate means that we have been running a somewhat easier policy than we would run if the opposite were the case.
How does the U.S. economy affect monetary policy in Canada?
Low levels of national savings in the United States are a stimulus for us. On the other hand, as that's gone on year after year after year, their big shortage of national savings makes people increasingly worried about whether the exchange rate for the U.S. dollar is sustainable over the long haul. You've got two factors at work. You really have to look behind what's moving those exchange rates to get the implications for monetary policy. When we've had very strong foreign demand, we were a little worried we might go shooting right through capacity and generate some inflationary pressures. On the other hand, as net exports become a drag because of the strength of the U.S. dollar, then the opposite is the case.
Tying the Canadian dollar to the U.S. dollar was a hot topic a while ago, but it seems to have fallen off the table. Is that idea dead?
For the foreseeable future I think the floating exchange rate serves us extraordinarily well. One could see a point where the cost of a floating exchange rate would be higher and then, from the strictly economic point of view, you would want to consider a single currency. But that would require the structures of our economy to look more similar. It would require that labour be able to move freely across the Canada-U.S. border. And it would mean no restrictions on the movement of goods and services. We're a long way away from all that.
You've said Canada needs to enhance workforce skills, to make markets more efficient, and to reduce net government indebtedness. How can the bank influence these factors?
Given the demographic structure of this country, and given the level of indebtedness of governments, it's really important that governments continue over the next decade to reduce the debt-to-GDP ratio. That will allow us to operate most efficiently and will provide the best preconditions for growth. But that alone won't do it. I mean, micro-economic policies and social policies are absolutely critical. But the bank is an independent institution, and if we want to have that independence then we'd better not tell governments how they ought to operate their micro-economic policy.
You've expressed concern that the financial system needs to be stable and efficient. What threats do you see?
For many years, Canada had one of the most efficient regimes governing financial institutions. What's happened is the rest of the world has caught up, and keeps moving forward. And we've not done very much since the mid-'90s to keep us moving forward.
Are you in favour of bank mergers?
There are three fundamental public interests. The first is that we have a high level of competition. Second, that institutions manage their risks appropriately. And third, we have to have a structure that governs markets and institutions, which promotes efficiency. And that largely means allowing the market to work and not standing in the way. If we try to erect all sorts of barriers, we allow those institutions and market players to sit in a rather comfortable pew, and I would really like to make their life as uncomfortable as possible so that they always strive to produce the best quality service at the lowest possible price for Canadian businesses and individuals. We ought to allow the market to determine which financial institutions survive, and which don't survive.
Were you consulted for the recent move to drop foreign content rules on RRSPs and pensions?
I have argued for a long time that the 30-per-cent limit was not a good idea for the efficient operation of Canadian capital markets. The large pension funds could get around it, at rather needless expense - and hurting only pensioners. And for individuals, everybody's situation differs. For some people, it's totally appropriate that they own almost all their assets offshore.
Why is it important for the bank to be transparent?
Monetary policy works best when Canadians and the markets understand what you're doing. The worst is to be in a Kremlin-type world where people are looking at every ending on every syllable trying to divine what you're going to do. We may not be the best analysts in the world. But at least being open shows how we think. People will tell us if they think we're crazy.
Maclean's March 21, 2005