Sound Monetary Policy

Published on December 13, 2016

For a sound monetary policy that protects Canadians from inflation and financial crashes


Maxime Bernier


December 15, 2016



A few weeks ago, the Bank of Canada and the Department of Finance announced that they were renewing the Bank’s mandate of a 2% inflation target for another five years. This news did not get much attention.


Monetary policy is, for most people, a very technical, difficult and boring issue. That is unfortunate because it is also a crucial issue for our economic well-being. It determines the level of inflation and how much we can buy with our dollars. How much we pay for imports and for our mortgages. It also plays a key role in influencing market crashes, economic crisis, and long-term growth. 

That’s why it is very important for anybody who aspires to lead this country to have an understanding of monetary policy, and to tell the public what they plan on doing.


Inflation at 2% a year may seem small, but it means that prices double every 35 years. It means that the dollar in your pocket is buying less and less goods every year.


The reason why overall prices constantly go up is not because businesses are greedy, or because wages go up, or because the price of oil goes up. Ultimately, only the central bank is responsible for creating the conditions that cause prices to rise by printing more and more money.


As even the former Federal Reserve chairman Ben Bernanke admitted, inflation is the equivalent of a tax. Inflation eats away at our purchasing power, our revenues and our savings. It forces constant adjustments in long-term planning and distorts relative prices and investment decisions.


Most economists, including those at the Bank of Canada, are aware of this. When its mandate was previously renewed in 2011, the Bank carried several studies on the advantages of having a lower inflation rate target.


As Mark Carney, the governor at the time, said in a speech in November of that year: “The Bank’s research has generally found that the further benefits from reducing these distortions imply an optimal rate of inflation closer to, or even slightly below, zero.”


However, the bank at that time decided to stick to its 2% inflation target for one major reason: To preserve its ability to intervene more forcefully in a period of crisis.


With an inflation target of 0%, interest rates would tend to be lower in normal times than with inflation at 2%. The Bank would then have less leverage to push them even lower to stimulate the economy, because it is difficult to go below 0%. The Bank prefers to keep an inflation target higher because interest rates will also be higher and it will more ammunition to fight an economic downturn, like in 2008-2009.


That was the theory. Now, we are several years later. And we know that reducing interest rates a lot and keeping them very low doesn’t work to stimulate the economy.


We have had interest rates close to zero percent for eight years but this had no effect on growth. It did not work in Japan, which has been doing this for 25 years. It is not working in Europe either.


However, it is creating more and more distortions in the economy. Artificially low interest rates are encouraging people to borrow. The debt carried by Canadian households has reached record levels. If interest rates increased now, hundreds of thousands of Canadians would suddenly have trouble paying their mortgage.


Artificially low interest rates are also hurting savers and investors, who see very poor returns on their money. They are causing trouble for banks and insurance companies, which are forced to invest in riskier assets. They are creating bubbles in various sectors, which is exactly the reason why there was a crash in 2007.


Central banks have been saying for years now that they will eventually have to raise interest rates and go back to a normal situation. They know that keeping them very low is creating imbalances, which are getting worse day by day. But they are afraid that raising rates will provoke another major recession.


In a speech before the Economic Club in Toronto in 2010, I warned that a monetary stimulus policy would not solve our long-term problems and would on the contrary bring about another crisis. You cannot create growth and wealth simply by printing more money and encouraging people to borrow and spend, just like you don’t get richer by maxing out your credit card. The only way to create wealth is by investing more, working more and producing more.


At the time, everybody believed that very low interest rates would boost the economy. Everybody is now aware that it’s not working and that the situation has become untenable.


Canada’s former Chief Economic Analyst, Philip Cross, wrote in a recent study published by the MacDonald-Laurier Institute that “The historical record is that the stimulative policies used to end one recession sow the seeds for the next cyclical downturn.”


If monetary policy is ineffective, how than can we get out of this dead-end and prevent another major recession? Business investment has been one of the weakest areas of our economy in recent years. We should adopt policies to encourage the private sector to invest and create wealth.


Three months ago, I made a series of proposals to unleash Canada’s economy. I proposed to reduce corporate income tax from 15% to 10%. To abolish the capital gains tax. And to make permanent and extend to all sectors the Accelerated Capital Cost Allowance.


This is in addition to other measures I have announced to bring more competition in the telecommunications sector, the air transportation sector, and in agriculture, as well as to cut red tape by eliminating interprovincial trade barriers. The more open our economy, and the more competition there is, the more businesses will be inclined to invest.


The Governor of the Bank of Canada, Stephen Poloz, agrees that there is little more he can do to stimulate the economy and that we should use other means than monetary policy. He is right in saying this. However, he should have stopped there.


Instead, he has spent the past year using every occasion to champion the Liberal government’s misguided plan to go into deficit and spend more taxpayers’ money.

Mr. Poloz is not only wrong about the effectiveness of this Keynesian solution. He is wrong in actively promoting it and encouraging the government fiscal policy.


The Governor of the Central Bank is a civil servant, not a politician. In April 2015, when asked by my colleague Andrew Saxton during a Finance Committee hearing to comment on the benefits of a balanced budget for the economy, Mr. Poloz answered: “It's really not our role to comment on fiscal policy. Since we're the central bank, I would decline that.”


He was right. He has a duty to remain impartial when it comes to the different types of fiscal policies that should be implemented. He has no business cheerleading one type of solution over another to stimulate the economy. His business is to manage the Central Bank. He has crossed a line, and I strongly suggest that he refrain in the future from such involvement into partisan politics.


To summarize: When I am elected Prime Minister in 2019, I will put an end to the ineffective deficit spending policy of the current government. I will bring back a balanced budget within two years. I will legislate tax cuts to boost private investment and stimulate the economy on a sustainable basis. And I will ask the Bank of Canada to study once again the benefits of eventually adopting a 0% inflation target when its mandate is renewed in 2021.


Thank you.