Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 1 - Evidence - June 22, 2011
OTTAWA, Wednesday, June 22, 2011
The Standing Senate Committee on Banking, Trade and Commerce met this day
at 4:20 p.m. to examine the present state of the domestic and international
Senator Michael A. Meighen (Chair) in the chair.
The Chair: I call this meeting of the Standing Senate Committee on
Banking, Trade and Commerce to order and extend a very warm welcome to two
witnesses who have appeared before us on previous occasions. Of course, I am
welcoming Bank of Canada Governor Mark Carney and Senior Deputy Governor
Tiff Macklem. These gentlemen are here to discuss issues relevant to the
Bank of Canada's mandate and other matters of importance to Canada's economy.
I particularly want to underline our gratitude to Governor Carney and Senior
Deputy Governor Macklem for accepting our invitation on such short notice.
As Senator Moore indicated a moment ago before we called the meeting to
order, we missed the spring meeting with you and this is a chance to catch
Honourable senators, Mr. Carney was appointed Governor of the Bank of
Canada on February 1, 2008 for a term of seven years. As governor, he chairs
the bank's board of directors. Mr. Carney is also a member of the board of
directors of the Bank for International Settlements and Chair of the
Committee on the Global Financial System.
Mr. Macklem was appointed senior deputy governor for a term of seven
years beginning July 1, 2010. As senior deputy governor, Mr. Macklem is the
bank's chief operating officer. He oversees the strategic planning and
coordinating of the bank's operations, sharing responsibility for the
conduct of monetary policy as a member of the bank's governing council, and
participating in fulfilling the bank's responsibilities for promoting
Canada's hand in navigating the choppy economic waters of the last few
years has been bolstered thanks to the excellent analytical work,
international influence and monetary prescriptions of the Bank of Canada
under the leadership of Governor Carney. Naturally, Governor Carney would be
the first to agree that we must always strive to stay ahead of the curve in
confronting emerging issues, both domestically and internationally.
In a speech presented to the Canadian Club of Ottawa on May 16 of this
year entitled ``Canada in a Multi-Polar World,'' Governor Carney made some
excellent observations that took stock of the lessons Canada has learned
from the past, especially as they pertain to the world of transformative
change that we currently face and that we will certainly deal with in the
future. I urge all committee members and viewers following us at home on
Canada's Parliamentary Affairs Channel to go to the Bank of Canada's website
and read the entire speech.
With your permission, I want to quote a few passages from that speech, as
I hope it will set the table for a wide- ranging discussion we will be
having today with Governor Carney and Deputy Governor Macklem. Governor
Carney said the following:
The lessons of the past century would serve us well in this one.
As Barry Eichengreen observed, ``Global shifts have almost always
fanned economic conflict, created problems for economic management, and
heightened diplomatic tensions.''
Challenges for economic management can be addressed by economic
flexibility and sound macro policy. Canada's fiscal strength and
monetary policy credibility represent crucial advantages that must be
Our commitment to openness should drive us not only to create new
markets but also to help secure the new economic order. . . . That is
why we are trying to convince others to follow the lessons we learned in
the last century, so that we can all realise the great promise of this
With those heady thoughts, I would like to turn things over to Governor
Carney to make his opening statement.
Mark J. Carney, Governor, Bank of Canada: Tiff and I appreciate
the invitation to appear today and look forward to the discussion. I would
like to spend a few minutes talking first about the bank's analyses of the
economic outlook and then about the stability of the financial system. We
obviously look forward to your questions.
The bank's most recent comprehensive assessment of the economy was
presented in its April Monetary Policy Report. Subsequently, on May 31, the
bank issued its latest policy rate announcement. Those two documents provide
the basis for my comments today. I would ask honourable senators to bear in
mind that the bank is in the process of updating its economic analysis, and
we will publish an updated forecast in the July MPR that will be released on
I will also take a few moments this afternoon to outline the highlights
of the bank's Financial System Review, which was released just this
morning. The FSR reviews developments in the financial system and identifies
potential vulnerabilities, and I believe committee members are being
furnished copies, if they so wish.
Beginning with the economic outlook: the global recovery is proceeding
broadly as we had expected in April; the U.S. economy continues to grow at a
modest pace, limited by the consolidation of household balance sheets;
growth in Europe is maintaining momentum, although the risks related to
peripheral economies have clearly increased.
The disasters that struck Japan in March are severely affecting its
economic activity and are also causing temporary supply chain disruptions in
advanced economies, including Canada; although commodity prices have
declined recently, they are expected to remain at elevated levels, supported
by tight global supply and very strong demand from emerging markets; these
high prices, combined with persistent excess demand conditions in major
emerging-market economies, are contributing to broader global inflationary
pressures. Despite the challenges that weigh on the global outlook,
financial conditions remain very stimulative.
In the short term, economic growth in Canada is expected to slow to
modest rates due to a number of temporary factors. These include the supply
chain disruptions that will dampen automotive production, as well as the
drag from adjusting to higher energy prices on consumer spending in Canada
and the United States.
Overall, a broad rebalancing of demand in Canada is under way as the
economic expansion progresses. Business investment is now growing strongly,
and the contributions to growth from both household consumption and
government spending are diminishing. As I will discuss in a moment, in this
context the bank anticipates a slowing in both the rate of household credit
growth and the upward trajectory of household debt-to-income ratios.
The recovery in net exports is expected to be modest given several
factors, such as the relative weakness in the U.S. economy, Canada's
under-representation in fast-growing emerging markets and our
competitiveness challenges most notably due to the persistent strength of
the Canadian dollar.
While underlying inflation is relatively subdued, the bank expects that
high energy prices and changes in provincial indirect taxes will keep total
CPI inflation above 3 per cent in the short term.
Total CPI inflation is expected to converge with core inflation at 2 per
cent by the middle of 2012, as excess supply in the economy is gradually
absorbed, labour compensation growth stays modest, productivity recovers and
inflation expectations remain well-anchored.
The bank expects a re-acceleration of growth in the second half of the
year, consistent with a renewed narrowing of the output gap. As I noted at
the start, we will update this projection fully in the July MPR.
Allow me now to turn to the bank's monitoring of developments in the
Although the Canadian financial system is currently on a sound footing,
the bank judges that, largely because of external factors, risks to its
stability remain elevated and have edged higher since December. Of the five
main risks identified in the Financial System Review published today,
I would like to concentrate on three.
First, sovereign balance sheets remain strained in many advanced
economies. Fiscal strains in the euro-area periphery have continued to build
despite continued efforts by the affected countries and assistance from the
International Monetary Fund and the European Commission. Whether or not a
sovereign credit event occurs, these strains could trigger a sharp repricing
of credit risk for other governments with high debt burdens, as well as a
more generalized retrenchment from risk-taking in global markets, including
markets in Canada.
Second, a long period of low interest rates globally may fuel excessive
risk-taking. The search for yield could cause risk to become underpriced or
lead investors to take on exposures that they may not be able to manage if
conditions become less benign. Our institutions should not be lulled into a
false sense of security by current low rates.
Last, the high level of household indebtedness has increased financial
vulnerabilities in Canada. Canadians are now as indebted as the Americans
and the British. The bank estimates that the proportion of Canadian
households that would be highly vulnerable to an adverse economic shock has
risen to its highest level in nine years, despite improving economic
conditions and the ongoing very low level of interest rates. This partly
reflects the fact that the increase in aggregate household debt over the
past decade has been driven by households with the highest debt levels.
There are some offsets. Debt is largely fixed rate, and household net
worth is at an all-time high. However, borrowers should remember that a
fixed-rate mortgage will reprice a number of times over its life and, while
asset prices can rise and fall, debt endures.
The elevated levels of household debt require continued vigilance. Since
2008, the federal government has taken a series of prudent and timely
measures to tighten mortgage insurance requirements. These measures will
reduce the possibility that prices are further driven up simply through
higher leverage and, more broadly, these measures will support the long-term
stability of the Canadian housing market.
While these measures will help moderate the pace of debt accumulation by
households, it will take some time for their full effect to be felt. As a
consequence, Canadian authorities will continue to cooperate closely in
monitoring the financial situation of the household sector.
Overall, despite the challenging international environment and the
increasing strains on household balance sheets, the Canadian financial
system remains healthy. For example, asset quality at Canada's major banks
has improved further in recent months. Moreover, the aggregate financial
position of the domestic non-financial corporate sector is solid, with
corporate leverage remaining at very low levels.
Finally, I would like to take note of something we discussed at the very
start. On Monday, the bank, along with the Minister of Finance and the
Commissioner of the RCMP, unveiled a new generation of bank notes. These new
notes are at the frontier of bank note technology. They are secure, durable
and green. They will set a benchmark worldwide and will help maintain the
confidence Canadians already have in their currency.
With that, we will be happy to answer your questions.
The Chair: Thank you. Can you comment on two things? First, as I
understand it, there is still talk in the United States about what to do
now. Will we have another massive dose of fiscal stimulation? Do you think
that is likely, and if so, what effect will that have?
Second, in the Financial System Review that you released today,
you urge early adoption by our banks of the Basel III standards. What are
the implications of our banks doing that, both positive and negative? Will
it have an effect on domestic lending, international competitiveness or the
capacity of our banks to withstand international factors that are beyond
Mr. Carney: On the first question, regarding additional fiscal
stimulus in the United States, I will give a couple of words of context. In
the teeth of the crisis and of the recession, G20 leaders gathered first in
Washington and then in London to agree on considerable fiscal stimulus,
timely and appropriate fiscal stimulus, in all major advanced and emerging
economies. My colleague to my left represented Canada as the finance deputy
at those meetings.
In Toronto about a year ago, those same countries came together, with
slightly different leaders, though not in the case of Canada, and agreed on
a path for consolidating fiscal accounts. They agreed on a path toward
reducing fiscal deficits from that point until 2016, having deficits
relative to the GDP by the midpoint and then stabilizing the level of debt
to GDP by 2016. That is an appropriate time path, in our judgment, for
consolidating fiscal accounts for returning to prudent fiscal policy in all
countries, including the United States.
The recent proposals both of the administration and of members of
Congress in the United States have been broadly consistent with that time
path. The questions that are beginning to be debated again in the United
States are on the short term, whether there would be some additional
I hesitate to provide direct advice to the administration or to the U.S.
Congress on these matters; it certainly would not be followed even if I did.
However, I would say that any of those decisions should be taken in the
context of that imperative of medium term fiscal sustainable, first; and
second, in the context of the need for absolute efficiency of any fiscal
measures, so maximum impact of any fiscal measures that were taken; and
third, in a context, as we highlight in the report of this morning, of
increasing scrutiny of the fiscal sustainability of major advanced
Our experience in Canada of the mid-1990s is that the bond market is
there and then it is not. People in all countries are wise to not take for
granted the presence of investors at certain interest rates. Interest rates
are currently very low. We think they are unlikely to persist at those
levels over the medium term. That is my initial response to that part of the
Thank you for asking the Basel III question. Basel III is an incredibly
important initiative. The first thing it does is that it brings global
capital standards more to Canadian capital standards. It makes the global
capital system look more Canadian. It introduces for the first time on a
global basis a leverage ratio, a very simple test to look at assets over
equity without adjusting assets on a risk-weighted basis. This is one of the
innovations that the Superintendent of Financial Institutions here in Canada
introduced a number of years ago to supplement Basel II that helped us
weather the crisis. In addition, it substantially tightens risk-weighted
capital requirements and it will increase them substantially in some
jurisdictions. In the case of Canada, banks will have to set aside
additional capital relative to their already relatively high levels.
Capital standards in Canada are the responsibility of the Superintendent
of Financial Institutions, for absolute clarity. It is the view of the
superintendent that Canadian banks should build to the new Basel standard by
2013. What is important, again by context, is that the Basel standard has a
transition time frame from 2013 to 2019. Given the strong position of
Canadian banks, given their strong capital positions, given their strong
earning powers, and, somewhat helpfully, given the credit dynamics there are
in this economy as well, the view of the superintendent, which we entirely
support, is that the banks should build to the end point by the starting
point. This will maintain Canada's leadership in global banking, the most
prudent banking system by many measures. It will maintain that leadership.
It will ensure that in a risky global environment there will be no questions
about the quality of the capital base of Canadian financial institutions,
and it should be seen in the context of a Canadian financial system that has
been growing credit very rapidly.
There are some macroeconomic reasons and financial stability reasons why
we would expect the pace of growth of credit to ease off. Again, it is
entirely consistent with that overall macro outlook.
The Chair: What effect would this have for the average consumer in
Canada or bank customer? Would it make it harder to obtain credit? Standards
would presumably be higher.
Mr. Carney: Standards will be appropriate. There are two ways to
look at this. First, there have been adjustments to the risk weightings on a
variety of assets that banks have. I am speaking banker speak, but if any of
us borrow either on a credit card or on a mortgage from a bank, that is an
asset for the bank, the flip side.
There have not been fundamental adjustments to the risk weighting of
those assets. Where there have been adjustments as part of this new accord
is to other assets that were viewed as being very riskless — highly
structured financial products, for example, which proved to be very risky.
That is the first element.
It is true, however, that for a given loan, banks in Canada, once the
Basel Accord is fully implemented, will have to set aside more capital for a
given loan that is set out to you or me, whether it is a credit or a
mortgage. In the broad context, that will increase the cost of those loans
at a point in time, but it is our judgment and it is the judgment of the
Basel community and the international regulators that it will result in
lower costs over the fullness of time because it reduces the prospect of
adverse financial events. To be more precise, the cost of credit in this
economy, as members of this committee know — we were here, we discussed it —
shot up very brutally in 2008 into 2009 as a result of the crisis. What we
are trying to do globally — that was largely a crisis that came from outside
— is reduce the probability of that happening, which will ensure that over
time there is a much more predictable cost of credit in this economy and
that Canadians get the benefit of that.
Senator Tkachuk: Governor, thanks for coming. I want to go to the
international lending practices of banks, part of which you touched on in
your presentation. It seems to me that banks have been more prone to risk
lending to countries than they have been to corporations and individuals
because countries were always seen as safe havens for money and building
assets for the bank. I want to know whether the banking system in Europe,
for example, is looking at how they judge a country to be worthy of
It seems to me that not only was this country living beyond its means but
people were helping it along to live beyond its means. If it was an
individual or a corporation, they would be less prone to lend money, but
they obviously were more than happy to lend money to Greece, Portugal and
others, even though they knew there might be a chance they may not pay it
back, or perhaps they did not know. Are the banks looking at new ways to
judge how much credit they will extend to countries?
Mr. Carney: In some cases, yes, very actively, but I think the
question is more on the medium term, a change in business approach. I have
several comments. First, one of the lessons that is absolutely reinforced in
the current situation is that the creditworthiness of a bank cannot
ultimately be separated from the creditworthiness of its sovereign
government. Some of the challenges that are coming from the exposures in the
periphery are direct lending to the governments in that periphery from banks
in third countries, but some of them are also from relationships with the
underlying banks in those countries as well who are deeply exposed to their
own host country governments. They own a lot of their own government bonds
and as a result their fate is intertwined with that of the government. That
is a lesson that has to be relearned and has been relearned.
The second thing to say is that it certainly should be a lesson of the
institutions themselves. Responsibility starts with the institutions, but
also it is a salutary lesson for regulators. In the simple shorthand of the
original Basel Accords there were very simple judgments about what was a
creditworthy country or what was not. If you were in the OECD, you were
creditworthy and if you were not, you were not. Effectively, anyone in
Western Europe, broadly speaking, was creditworthy. That judgment gave a
real capital advantage to owning the bonds of those countries.
That has gradually been changed and one of the initiatives that is part
of the current ongoing financial reforms is to reduce simple reliance on
very bright-line tests, whether it is things like the OECD one, which is
going away, but there has historically been an overreliance on credit
ratings from the major credit rating agencies. We are in the process of
removing that mechanical reliance and asking institutions to make their own
actual judgments about the relative creditworthiness of the individual
The third area we have to be careful about — and I am speaking a bit from
a regulatory perspective because your point is absolutely dead on — is that
we have to be careful not to reinforce that type of behaviour through
The other area where we have to be careful, and we are in the process of
developing and reviewing these rules, and this is on an international basis
but would apply to Canada, is on what are called liquidity rules. There are
capital rules but there is also liquidity; what do you have available to
make a payment on very short notice?
We have to be careful to not excessively force banks to hold government
bonds of any given government so that the bonds of some of the affected
economies right now are as valuable as the bonds of Canada from a liquidity
perspective, to use two extremes. These are issues that are being worked
through right now.
The short answer is that the dynamic you identified is an issue, has been
an issue, and is both the product of complacent business practices but also
being reinforced by regulation.
Senator Tkachuk: On the news last night they were talking about
Greece again and of course the motion of confidence in the government and
its ability to tackle some of their expenditure problems. Some people said
they will never pay their money back, they will never pay their debts
anyway; perhaps they should bankrupt now — in other words, deal with it
right now by bankruptcy rather than trying to get more money from the
European Union, because they will never ever pay their debts.
I have never given a lot of thought to what would happen if a country
goes broke, but what happens if they send a signal that they cannot pay
their debts? I know none of this will be good, but how bad would it be?
Mr. Carney: We highlight in the report that even though Greece
seems very far away from Canada from a direct financial linkage, we show the
levels of direct exposures of Canadian banks are to the so-called periphery
in Europe; they are very modest. Further, we have to look to the indirect
linkages through other third country banks or second country banks to which
we would be exposed, and have a realistic or prudent assessment of what
could happen to market volatility across a range of markets because of
interlinkages in Europe. We view that those risks could be considerable.
That is why we have supported the efforts of the IMF and the euro group,
European Commission and the European Central Bank to address the situation
supporting the Greek authorities in their terms of their efforts to address
it. We would also join with others in urging that an effective firewall can
be set up between possible events in Greece and other parts of the European
financial system and therefore, by extension, the global financial system.
While the situation in Greece is very serious and it is very difficult for
the Greek people, for the Greek government, and the costs of default would
be considerable, in the context of the European Union this is a manageable
issue. It is a difficult issue, but it is a manageable issue. This is
single-digit percentage point, less than 2 per cent effectively of European
GDP for that one country, so it is an issue that can be managed, but it has
to be managed in a deliberate way.
The most promising avenue in the view of the IMF and European authorities
is to pursue an additional disbursement and then potentially a new program
for Greece, a medium-term program for Greece that would be supported by a
series of fiscal measures, privatization measures and other structural
reforms that would restore debt sustainability to the country and
competitiveness and growth to the country.
There are two avenues. Just to summarize what I am saying, first, it
matters because of knock-on effect, second and third order effects. There is
a plan being pursued by the IMF, by the Greek authorities, and we support
that plan. In the same context, though, to your point senator, there is
tremendous value and there is an entire ability in terms of financial
resources to contain the situation if that becomes necessary.
Senator Harb: Thank you, Mr. Carney and Mr. Macklem, for your
excellent presentation and for being with us.
In your Financial System Review, on page 3 you outline five
points: global sovereign debts, you rate the level of risk as being high;
global imbalance is high; protracted recovery in advanced economies
elevated; low interest environment in major advanced economies moderate;
and, which is very important and you elaborated, the Canadian household debt
finances are also elevated. Then you rate the risks; all risks are being
elevated now and over the next six months edging higher.
If one was to look at Canadian household finances, one would conclude
that the only thing that will keep this from creating a problem in the
Canadian economy is in fact to keep interest rates low. You have outlined
that low interest rates are keeping the consumer afloat. Our interest rate
is much higher than that of the U.S., 1.48 per cent to 1.49 per cent, so if
interest rates were to move up, it could create quite a bit of a problem.
You are stuck not only on that front but also in your overall strategy.
If you increase interest rates, your currency will increase, the Canadian
dollar will be stronger than the U.S. and your exports will be impacted. You
are involved in a Catch-22 situation and you have to keep a keen eye on the
ball because you do not have a lot of room to manoeuvre.
Mr. Carney: First, one point of clarification. In the past six
months, in total, these risks have edged slightly higher since the level in
December. The point that one takes from the whole is that the world is a
risky place. I think the chair referenced it at the start. These risks are
predominantly external. They are somewhat interconnected. Obviously, trouble
in the periphery issues with the U.S. fiscal situation would have an impact
on global financial conditions, which could provide the sort of market
interest rate shock that could worsen the challenges around a relatively
indebted Canadian household sector. That is the first point, namely that
these risks are relatively high and they are interconnected.
The second point, though, is that with the perspective of interest rates
in Canada, we are in no way incapacitated on our ability to move interest
rates in this country. We will take appropriate moves consistent with
achieving our 2 per cent inflation target. That is our mandate. It is
absolutely clear that is how we are judged in the conduct of monetary
policy. In fact, dynamics on household debt are the potential upside risk in
our parlance to activity and inflation in Canada. It is not our central
expectation by any stretch, but there is a possibility that households will
continue to borrow at relatively high rates, which will feed consumption and
increase inflationary pressures in Canada. All things being equal, that
would necessitate a policy response. However, all things are never equal so
we have to take everything into account.
A range of things can be done to address issues around a financial
vulnerability in the household sector. The responsibility starts with the
individuals and the individual institutions that are lending to them. This
may seem trite and obvious, but it is important to point out these dynamics
and to remind both Canadians and Canadian financial institutions that we are
in extraordinary times and we have taken extraordinary measures. Rates are
very low. They are low for a reason, but they will not be low forever;
things will adjust. When you take out debt, you have to be comfortable that
you can service those debts in a higher interest rate environment. That must
be the case and certainly on a mortgage where you know it will be re-priced
over its lifetime. That is the first line of defence.
The second line of defence is ensuring the micro prudential oversight of
institutions. That is, do banks have adequate capital; are they doing their
risk management properly? That must be done. The superintendent is doing
Concerning the chair's question about Basel III, the superintendent is
encouraging these institutions to build capital. That, on the margin, helps
to ensure that this situation does not become more difficult.
The third thing that can be done is to move so-called macro prudential
instruments such as the requirements around mortgage insurance. That is what
the government has done now on three occasions, in our view, in a timely
manner. There has been a prudent phasing of that. The most recent measures
came into effect in the spring. In our view, that effect is just starting to
be felt. There is even an element of the recent run-up in debt in the first
quarter that certainly reflects a pulling forward of activity in
anticipation of the rules. It is a natural dynamic and a short-term dynamic.
We need to see the full and accumulative effect of those recent changes. A
variety of measures can be taken. Within the context of all of those
measures, we will then judge and set monetary policy appropriate for the
monetary policy objective, mindful that the dynamics in the household and
housing sectors could affect the inflation target; and mindful of the fact
that we have flexibility in our horizon to achieve that inflation target in
keeping with good practice.
Senator Harb: The global economy is integrated and corporations
are multinational. According to statistics, corporations have been doing
exceptionally well over the past 20 years in comparison to government or to
consumers. I suppose the only one who is not really doing well is
government. They do not seem to be catching up. They seem to be always
behind the eight ball and sort of managing things by the seat of their
I have not yet seen a mechanism put in place in order to deal with issues
in governance on the government's front — not necessarily on the banking
sector. I think you have done a good job in the banking sector, but overall
we seem to be waiting. Every time someone screams, the International
Monetary Fund will jump and give them a load of money but no one is sitting
and saying that the formula that we have from the 1940s and 1950s no longer
works because the world economy has changed drastically. We must come up
with some sort of mechanism or system that has a bit of a vision, not a
system that seems to be reactionary in nature. I do not know; that is just a
Tiff Macklem, Senior Deputy Governor, Bank of Canada: As we have
outlined, we have seen fairly sustained increases of household indebtedness
and we have been concerned about that. We have been out there expressing
Going forward, we do expect to see household spending moderate. We do
expect to see household spending coming more into line with disposable
income. The share of household spending relative to GDP, which is quite high
now, is expected to gradually go down closer to its historical average.
While we are at high debt-to-disposal income ratios — and we are not
claiming we have hit the ultimate peak; we could well go a little higher —
we expect that the rate of increase to diminish and level off. That is
something that, in the context of the government's tightening of mortgage
rules — and we work closely together — we will all be watching. That is our
base case. Governor Carney indicated there could be risks. There could be
more momentum than we expected. There could also be a more rapid
retrenchment. We will see how that balances out.
Senator Greene: Thank you very much for being here. On page 2 of
your opening statement, you state, ``The recovery in exports is expected to
be modest given the relative weakness of the U.S. economy.''
You list three reasons for that modesty: The relative weakness of the
U.S. economy; Canada's under-representation in emerging markets; and our
competitive challenges, notably the persistent strength of the Canadian
I am interested in the order in which you have placed those reasons. We
always hear about number one and number three; we do not hear about number
two very often.
I have three questions. First, are you suggesting by the ordering that
now Canada's under-representation in emerging markets is a problem that is
more important than the persistent strength of our dollar? Second, if it is
an important problem, and obviously it is or would you not list it, what can
the bank do about that? Third, what can the government do about that?
Mr. Carney: Thank you for that question. The ordering was to make
a point; it was not hierarchical. Given our starting point, we can do a
short-term turnaround in net export performance for Canada two ways. First,
the core of the U.S. economy could grow more rapidly. We cannot do that, but
it would be nice if it happened. We are not anticipating that, to be honest.
Second, we can enhance our competitiveness through some combination of the
currency and improved productivity. Where we have lagged is on the
productivity side, both in absolute and relative terms. Productivity fell
during the recession and it accelerated in the United States. We are at 75
per cent to 80 per cent of U.S. productivity levels. Our unit labour costs
relative not just to the United States but to other countries such as Mexico
and other competitors in the U.S. have fallen off quite a bit.
I will turn to emerging markets, but the good news on the productivity
front is that investment for a little more than a year now has been very
strong in imports of machinery equipment. Corporate Canada, the business
sector, is starting to respond. They have a long way to go. On an overall
basis, their pockets have strengthened. They do have a long way to go, but
they have started to respond. We expect that to continue, and that is fairly
central to our forecast for growth in the Canadian economy. We have every
indication that strength of investment will persist in this economy for some
time. This is in terms of the need to do it and the availability of
financing, and our surveys, both formal and informal.
Turning to emerging markets, the issue there is that we are
under-represented in emerging markets. These are the engines of growth. At
present, three quarters of global growth is coming from emerging markets. It
was one half at the start of the last decade. This is a bit of a cyclical
peak because, in many respects, some emerging markets are growing faster
than they can sustain and, obviously, major advanced economies are quite
weak, but things have shifted. Fortunately, we benefit from that strength
through improvements in our terms of trade; commodity prices are higher, and
even if we do not directly ship the commodities to emerging markets, we get
the benefit of world prices regardless of where we ship. That has a net
positive effect on our economy.
The challenge is that our non-commodity exports to emerging markets have
been relatively weak. In fact, our market share in those economies has been
halved over the course of the last decade. We have not grown non- commodity
market share in emerging markets as a whole. What can we do about it? At the
bank, we can unhelpfully point it out, which does not win us any friends,
but at least it gives you ideally the macro picture of what is actually
Second, I would suggest that building market share in these economies, in
our experience, from our perspective, is something that takes a number of
years and it takes concerted efforts. You have to build distribution
networks and relationships, you have to source suppliers, develop
linguistic, legal and other skills into your organization in order to get
there. There are a variety of ways that the Government of Canada tries to
help with things; EDC also tries to help. However, this is long-haul
The chair kindly referenced a speech I gave a month or so ago, and one of
the points of that was to try to get across from the bank's perspective that
this is a longer term shift. If you will be making that long-tailed
investment, it does have a payoff. This is a directional shift of relative
importance in these parts of the global economy. You not only have an
expectation of persistent demand from these economies but also, over time,
the likelihood of currency appreciation of those economies vis-à-vis the
United States dollar and also, by extension, the Canadian dollar in most
likelihood brings an additional return to that investment.
It is an issue. It will not solve short-term competitiveness. It is why
we are not getting the benefit on the export side of a global economy that
is growing at 4 per cent to 4.1 per cent this year, according to the IMF,
which is a pretty strong global economy, but we are seeing less of that on
the export side.
Senator Greene: The third part of my question was, what should the
government do about this? What can it do?
Mr. Carney: We favour, as does the government, pursuing openness
between markets, both on the trade and financial sides; pursuing selective
bilateral trade deals makes a lot of sense. Those deals should be, as is the
strategy, supplemented by deeper technical and academic links because very
often that is what helps open up those markets, more comprehensive
The number of strategies of EDC, which are very concentrated — I know the
president, Mr. Poloz, is very focused on this, and this is his background in
opening these markets. They also bring a measure of technical expertise in
addition to just pure export financing, which is incredibly important.
It is prioritization, a bit of a whole-of-Canada type approach, which in
some of these markets makes a difference. I know the Minister of Finance and
the Minister of International Trade on occasion have made very important
interventions to open up opportunities because it shows that the government
is aware that Company X, Y or Z is doing business in a number of these
markets that matter. Being as coordinated as possible is important.
Senator Hervieux-Payette: First, thank you for being here. I took
a look at your report, and I am delighted to read it because it is very well
I know that because of a strong euro, Germany is still at the top of the
world in terms of growing emerging markets and so on. Germany seems to have
a formula. Until last year, they were the top exporter in the world, even
before United States and China. Now China is ahead of them, but there are
probably some reasons for that, such as size: Germany has 81 million people
and China has over 1 billion.
There is a joint venture between government through their consulate and
the Chamber of Commerce. We do not have many large companies. We have more
small- and medium-sized companies. The situation is similar in Germany where
not just the large companies succeed.
What kind of mechanism could we put in place? We seem to have been going
backwards for a number of years now in terms of exports. The United States
is not the obvious place for exports in the coming years, so we must develop
On what should we focus our future studies? What approach should we
recommend to the government to really address this question, which is making
the pie larger rather than taxing people?
Mr. Carney: That is a very relevant question. First, on Germany,
as you no doubt know, Germany has done three things right, first what you
referenced, a joined-up approach that brings together government and
Second, over the course of the last two decades, since unification, there
has been a major industrial restructuring and retooling of that economy with
a huge surge in productivity. In fact, unit labour costs in Germany have, in
effect, fallen over the course of the last decade whereas — I am slightly
comparing apples and oranges — in U.S. dollar terms, unit labour costs in
Canada are up 80 per cent over the course of the last decade. A real
productivity boost has happened there from sustained investment and business
The third advantage Germany has is in their industrial strength and
expertise. This is a capital goods precision engineering economy, high
value-added as a result of that. Those are their export sectors. Commodities
and capital goods are the core imports into the major emerging markets now
and will be for the foreseeable future. Germany is in the right markets. We
have some examples of that, but it is not the core of our export base.
With respect to precision engineering, along with the Swiss, Germany is
in a position where they have enough margin to sustain currency
appreciation. Overall, they have not had to sustain much of the latter. They
have some basic advantages.
Senator Hervieux-Payette, I would hesitate to prescribe what you should
recommend to the government after study. I would merely say that we are
challenged in terms of our current position in these markets. There is a
clear opportunity for the country. Trade is a very important part of it, and
it is a major part of the government's agenda, I believe, although they can
speak better to that than I. Obviously, financing opportunities must be
consistent with that.
There are other elements of developing these ties, such as you mentioned,
that could be explored. However, I would prefer to read the Senate's report
after careful consideration in order to prescribe what this committee should
Senator Massicotte: Thank you for being here, gentlemen. It is
most appreciated. The value of our currency is very high if we compare it to
American currency, and for good reason, since our exports and commodities
have increased in value.
The concern we might have when we look at other European countries is
that, for four or five years, there has been a 25 to 30 per cent
disadvantage for our exporters. Is there a risk that this sector of our
economy will lose expertise and knowledge, as has happened in the past?
There is still a significant disadvantage. We can talk about exports from
emerging countries, we can talk about productivity, but the increase in the
currency is a very important factor. Is there a fairly serious risk of
losing that expertise?
Mr. Carney: Yes, first, there are headwinds when it comes to our
currency and the persistent strength of the Canadian dollar.
Second, why is the Canadian dollar so high right now? Yes, it is related
to the exchange rate, but at the same time, there are other aspects that
reflect the circumstances in the global economy, global imbalances, for
instance. More specifically, there are major emerging markets that
consistently intervene in the currency market. There are countries like
China that accumulate American dollars. In a way, they have too much
American currency. They want to diversify their portfolio — they do not
really have a choice — and the Canadian dollar is one option.
Third, there is a problem with respect to stock flu for private investors
when it comes to emerging markets. In other words, it is difficult to get an
indirect investment in China. There are other options, for example,
commodities and currency for countries, such as Canada, that are major
If I may, this is an important issue. It creates risks for our economy.
The bank has warned about the challenges with the persistent strength of the
Canadian dollar and advised observers not to underestimate the strength of
the headwinds created by that strength.
Senator Stewart Olsen: Mr. Carney, I can remember 10 to 15 years
ago, when productivity rates were raised as a big thing, but then fell off
the radar screen. I was especially concerned during the recession that
Canada's productivity rates were lower than the United States. The U.S. felt
the effects of the recession much more than Canada. How do you foresee that
My second question deals with commodities and the relatively high price
we get for commodities. Those rates are increased hugely, yet we are seeing
countries looking seriously at regulating commodity trading. Will that
affect our ongoing recovery? We rely fairly heavily on that.
Mr. Carney: If I may, I will take the second question and I will
ask my colleague to address the first question on productivity.
Why are commodity prices so high? Our view is that this has principally
been driven by sustained demand in major emerging markets. As a bit of
context, if one looks at construction materials and base metals, China and
India are housing the entire population of Canada every year and a half. The
middle class globally is growing at 70 million people a year. Just the
marginal demand for these commodities is enormous and being driven by the
major emerging markets.
We have seen and we have done analysis, which is contained in our last
MPR, and my opening remarks reference it as well, the correlation between
Chinese oil demand growth and the global oil price. To give you context,
marginal demand in China for oil over the last decade has been about 5
million barrels per day, whereas U.S. demand has fallen over the last
decade, and not just in the recent recession. China, India and other major
emerging markets are driving this.
In our view, that is the fundamental driver. We see strength in commodity
prices persisting for some time. That does not mean there will not be
volatility around it, and it does not mean that on occasion there will be an
overshoot on the way up from that volatility and on the way down because of
financial factors as well. These commodities, particularly the most liquid
ones, are highly traded in financial markets.
We do not view, however, that the level of commodities is the product of
pure financial speculation and that there is a regulatory intervention that
would be necessary to do so. To give you some comfort, the discussions
around the G20 table on this issue this year are more related to improving
the structure of commodity markets so that we do not get the type of
cascading risks and defaults that we saw in 2008 when Lehman Brothers and
others went down. There is a better structure in terms of the derivative
markets around commodities. There are clearer rules and clearance and other
plumbing-type issues in the commodity markets to ensure they are robust in
the event that inevitably some players will fail in these markets. Some of
the rhetoric gets detached from this, but we are trying to use specific
measures to get things down.
They are also related to agricultural commodities and freer trade in
agricultural commodities in order to ensure that we do not see the shortages
that result from temporary supply spikes. That is a dynamic where countries
close their borders and then the problem is exacerbated with serious
consequences from time to time. The G20 are working with the World Bank to
try to prevent that.
I will stop at commodities and ask Mr. Macklem to address productivity.
Mr. Macklem: Senator Stewart Olsen, you are correct that
productivity is a long-standing issue in this country and has received a lot
of attention over the years. Certainly there was a lot of research in the
1980s as to why our productivity growth was sagging. The good news is that
we do not seem to be doomed to weak productivity growth. We have had an
impressive boost of productivity growth in the second half of the 1990s,
which we shared with the United States. Unfortunately, whereas the United
States maintained more of that growth, in Canada it slumped down around 2001
and was quite weak for a decade. To put a number on it, productivity growth
from the decade of 2000 to 2010 is roughly one-half of 1 per cent compared
to something over 2 per cent in Canada.
Senator Moore: You mean 2 per cent in the United States.
Mr. Macklem: Sorry, did I get that backwards?
Senator Moore: That was a test to see if we were listening.
Mr. Macklem: You have to be careful looking at a point in time.
Clearly, we have gone through a very dramatic cycle. The United States shed
labour dramatically through the cycle. As a result, you have unemployment
rates in the United States well above Canada. Our cycle was more muted; we
have now recouped all the jobs we have lost and are somewhat above. The U.S.
has a long way to go to get back to their pre-cycle level. You have to be
You are right, even looking through the cycle, Canada is weak. The
question is: Why is that? It is fair to say there are some puzzles, but
there are some things that this research effort over the years has
demonstrated. We clearly do support productivity and on that list we put
stronger investment in machinery and equipment. As Governor Carney said, we
are starting to see much stronger investment in machinery equipment. That
comes off a period of weak investment and productivity. It has been
particularly weak through the current cycle. It fell about 25 per cent in
the recession, and that is historically a large drop. It has come back but
it is not back to its previous peak. We have already seen an impressive
rebound. We are expecting a sustained rebound and that will be important.
To show you the extent of the under-investment over a period of time, if
you go back about a year, Canadian workers, on average, had about one-half
the machinery and equipment in terms of capital stock than American workers.
You can see there is a big investment gap that needs to be made up.
There are a number of other factors, such as investment in research and
innovation. The public sector does quite well in Canada; the private sector
is lagging compared to others.
Another factor that researchers have pointed at is employment of more
workers with higher educational attainment. If you compare Canadian and
American workers, we do well on university and college degrees. We get high
percentages. We do not do as well on individuals with higher advanced
educational attainment. The challenge for firms is to put more emphasis on
hiring those workers.
Finally — and we have talked a lot about this already — there is the
competition in foreign markets. As Governor Carney stressed, the emerging
markets are growing rapidly. We need to hitch our wagon to that train and
get more exposure to those growing markets. Those are some key factors.
The good news is that we are starting to see some recovery in our
productivity growth. If we want to be competitive, and if our exports
recover, it will be important that is maintained.
Senator Moore: Governor, I would like a point of clarification
from page 2 of your presentation. About two thirds of the way down the page,
you talked about 2012. You then said that ``the bank expects a
re-acceleration of growth in the second half of the year, consistent with
the renewed narrowing output gap. We will update this projection in mid-
July.'' Did you mean the year 2011 or 2012?
Mr. Carney: We expect a re-acceleration of growth in 2011.
Briefly, 2012 is talking about the time horizon for convergence to the
inflation target in the previous bullet point. There are temporary factors
depressing growth for this quarter. In our April MPR, we had a 2 per cent
annualized growth rate for this quarter compared to 3.9 per cent in the
first quarter. The growth could be lighter than that, in the 1 per cent
range. It is the supply chain effect from Japan and other factors.
The basic point is that we do see a re-acceleration to rates. We will put
a finer point on it in July, to rates above the rate of potential in the
second half of this year at this stage.
Senator Moore: The chair asked you about Basel III. Canada is a
member of the Basel III committee. Do you sit on that committee as our
representative? By the way, thank you both for being here. Does your deputy
sit on that committee? How does that work?
Mr. Carney: Regarding the governance of Basel III, our Chief of
Financial Stability Department sits on the Basel committee as does a
representative of OSFI. There is a group called the Governors and Heads of
Supervision that oversees the Basel committees. I sit on that as well as
Julie Dickson, the Superintendent of Financial Institutions. There is then
the Financial Stability Board on which Mr. Macklem, Ms. Dickson and I sit,
as well as Paul Rochon, the Associate Deputy Minister of Finance. We are
well represented in this. We cannot dodge your next question, although I
Senator Moore: You mentioned in your remarks that the Canadian
banks have until 2019 to set their house in order. I thought it was 2023.
Mr. Carney: It is 2019. The key element of the new Basel III
Accord is that there is a phase-in of a new definition of ``capital'' and
new levels of capital that take place between 2013 and 2019. What I said in
response to an earlier question — and it is referenced in our FSR — is that
the Superintendent of Financial Institutions is asking Canadian banks to
meet the 2019 requirement by 2013. The phase-in is effectively starting
today to that point in 2013.
Senator Moore: OSFI says Canadian banks will have until 2023 to
replace $77 billion of complex capital. Is that a separate issue from what
you were speaking of earlier?
Mr. Carney: It is a related issue. The core of the definition of
``capital'' is common equity. On top of that common equity there are types
of what is called non-common tier 1 capital. Those are those complex
securities. There is a longer horizon to gradually unwind those and replace
them with Basel III compliant non-common tier 1.
Senator Moore: In the briefing note, you comment on the next steps
of the Basel committee, stating that the reform agenda is now turning to the
issue of market-based financing, which is commonly known as the shadow
banking system. That system was a significant contributor to the meltdown. I
thought that Canada's position was to get rid of that kind of entity.
Mr. Carney: The issue is to distinguish between the regulated core
of the financial system — that is, regulated banks, regulated insurance
companies — and everything else that happens in the financial system. To put
an order of magnitude on it, the size of everything else is as big as the
size of assets in the major banks and the major insurance companies.
What does everything else include? It includes all mutual funds. It
includes commercial paper. It includes the Canada Mortgage Bonds program of
CMHC; it would include any securitization; it would include hedge funds as
well. It includes a wide range of activities that are out of the core of the
Senator Moore: That is substantial.
Mr. Carney: It is absolutely substantial.
Senator Moore: How do we get a grip on it?
Mr. Carney: We get a grip on it in two ways. The core of the
system failed. For all the pejoratives around shadow banking, the core of
the system failed more than the shadow banking sector failed. Where they
intersected was where the core of the system had links or contingent
exposures to the shadow banking system. The classic example in Canada was
asset-backed commercial paper, where there was a link between banks and what
is the shadow banking activity or market-based finance activity.
The various reforms that have already been put in place in Basel and
others have been to tighten up the rules for those types of relationships.
For example, it used to be very easy to have a backup liquidity arrangement
between a bank and an asset-backed commercial paper — which I will use as an
example — and it would not show up on the books of the bank. That is over.
That is done.
Senator Moore: You got rid of that.
Mr. Carney: We got rid of that. That was one of the first things
that was done, and that starts to have a real impact in terms of the
The indirect relationship or the relationship between the core regulated
sector and this market-based finance or shadow-banking sector has been
addressed. We have to go through all those relationships, though, and make
sure we properly address them. We hit the big ones but I do not think we
addressed all of them. Then we have to look at the consequence of all these
regulatory reforms on banking. Does it force activity into the shadow
banking — I will use ``shadow banking'' as the term — into that area? You
have real regulatory arbitrage, because they are not subject to the capital
requirements, liquidity requirements and other things. How do we ensure that
the playing field is level?
Senator Moore: The answer is?
Mr. Carney: We will discuss it in the fall.
There are a range of options. They start with these linkages between the
core and the shadow banking. Those are the first order of business because
you can do most of this through addressing those linkages, because a lot of
activities, asset-backed commercial paper, are very difficult to do
effectively without some sort of backup liquidity. If you change the pricing
on that through capital requirements, then you change the nature of it.
Those linkages are first. The other measures are to use macro prudential
tools such as changing margining or regulating the entities themselves in
the shadow banking world or regulating by activity.
Senator Moore: Do you think you will be able to achieve some kind
of regulation? I hope you do, but do you think you can, the committee can?
Mr. Carney: I think we need to proceed carefully. We should start
with the core; see where the residual risks are from there and ensure that
there is no major regulatory arbitrage. Finally, by ensuring that the actual
linkage between these other entities and the core of the system is limited,
we can recognize that you can have activities there and they can fail, and
it does not have repercussions.
I would say one thing, which is that during the crisis a number of hedge
funds failed. The failure of those hedge funds had no knock-on effect on the
core. There were lots of other issues in the core, but there was not the
linkage between those hedge funds, who lost money for their investors and
their principals — fine, they made mistakes, it was their problem — but it
did not cascade back on to the core of the system.
The measures were taken around derivatives; over-the-counter derivatives
will help with that. Measures around things such as, I referenced contingent
liquidity, will help with that and other measures. It is a major initiative
and will take a more comprehensive conversation.
Senator Moore: When you were here last year, I asked you about the
treasury holdings that the Bank of Canada has. I mentioned Greece and you
said we are not that badly exposed; we can manage it. You would not give us
the numbers. What per cent do we have of U.S. treasury bills in your
Mr. Carney: Just for absolute clarity, and we can always go back
over it, the Bank of Canada does not hold treasury bills of European
governments. The Bank of Canada's balance sheet is comprised of Government
of Canada treasury bills and Government of Canada bonds.
On occasion, in the teeth of the crisis, there was an option for banks to
whom we provided liquidity to provide a range of collateral, which could
include U.S. treasuries, but first, we have an over-collateralization;
second, we have a direct lending relationship, but the first point is that
the core balance sheet of the Bank of Canada is that the Government of
Canada is on the asset side. Second point: The reserves of the Government of
Canada, the exchange fund account, the foreign exchange reserves, which are
not on the balance sheet of the Bank of Canada, contain some European
government bonds. They are managed according to an investment protocol and
risk limits that is ultimately overseen by the Minister of Finance.
Senator Massicotte: Obviously, 2008 was a great lesson, a global
disaster. We learned that the economic events of other countries have an
effect on our own. A great deal has been done since then, Basel III and
regulations have been changed. However, a lot of experts, you included, have
said that progress has been made, but that there is still a lot to be done.
We can see that, even in the United States, all kinds of measures were taken
to delay the application of regulations and legislation.
It seems to me that, globally, there is some fatigue or a lack of
interest, on the part of legislators in particular, to support more measures
to make more progress. What should we do? What is your solution?
You are saying that we need to do more. Last time, there was discussion
of convertible preferreds. There is still much to be done, but the financial
sector is somewhat tired. I am concerned that, in five or ten years, we will
have another economic disaster and that we will say that we have learned
things and that we will put in place measures that will again be half
measures and that we will expose ourselves to the risks. Will this be the
Our own CEOs of Canadian banks have said recently in speeches that the
arguments in place are too heavy-handed, that it is not necessary in Canada
because they are more brilliant and more intelligent. How do you react to
those comments? In other words, according to you and a number of other
experts, we have a great deal left to do, but our Canadian banks have
already done too much and the regulations are already too burdensome. How do
you respond to all of that?
Mr. Carney: I will start and then I will pass it over to my
First of all, with respect to CEOs' comments, I do not know which CEOs.
We learned some lessons during the crisis, even in Canada. Mistakes were
made in Canada, and we were fortunate. It has to be said. For example, in
the ABCP matter, we learned lessons about the liquidity of contingencies, if
I may say, the links between the banks and these vehicles.
We learned some lessons about the trading book and the amount of equity
the major banks had against the trading book. I in no way share the idea
that we have done too much for the Canadian system.
Secondly, there will be other changes, other regulation initiatives here
in Canada. We just spoke with Senator Moore about the issues surrounding the
other half of the Canadian financial sector and the other half of the global
financial sector, or what we call the shadow banking sector.
Initiatives will be taken. According to the Bank of Canada, there is more
to be done to better regulate the banking sector, but the time has come to
target this shadow banking sector so that our approach is more global, more
I will let my colleague address the third point because one aspect of
your questions touches on the implementation of the regulations. We can
create rules, that is fine, everything is in order and there is nothing to
do. There are issues of levelling the playing field and energy. Mr. Macklem
is responsible for implementing the global rules, even in Canada, with the
Financial Stability Board. I can assure you that we still have a great deal
of energy. We are not tired. We will use our energy in a targeted way, and
there is no question of stopping now.
Mr. Macklem: As the governor just mentioned, it is clear that the
rules should be improved. Basel III is done and it is very good. Some work
still needs to be done on the parallel system, the shadow banking system.
However, there is one aspect that we should not forget, which is that we can
have regulations, but if they are not in place, they will be of no use.
There were rules before the crisis, but they were not sufficient;
however, even the rules already in place in some countries were not being
What else did we learn? We learned that when a country, especially a
major country, does not follow the rules, there is a global impact. The
global financial system is far more connected than we ever realized. We do
not want to be in that situation again. So, it is important to increase the
rules, but also to ensure that the rules will be put in place in the
countries. The rules for the banks, for the financial sector, are not based
on a treaty like those of the WTO, but we are trying to have transparency,
to see what the countries are doing. That will create pressures since all
the countries are following the rules.
Now there are various methods in place, including the Financial Sector
Assessment Program of the International Monetary Fund. The 25 members of the
Financial Stability Board signed an agreement stating that the Financial
Sector Assessment Program would be reviewed every five years. All of this is
already in place, and all the countries are carrying out this task.
We have also added a new international review system, a peer review done
under the auspices of the Financial Sector Assessment Program. I am chair of
that aspect of the program.
We have already carried out six reviews, but it is clear that we will
have some more significant reviews in the future, especially the
implementation of Basel III. There are some very technical aspects to that,
including the issue of how the various countries are going to put in place
some aspects such as —
. . . deductions, the risk weighting, how those are being applied and
looking at it from an overarching perspective. The one message is, yes,
industry is pushing back and our job is to push back at them and remind
them of how desperate the situation was at the depth of the crisis and
how desperate they were. Memories are sometimes remarkably short.
The one message they do send us and that we do have to bear some
responsibility for is we have to ensure that there is a level playing field.
The idea is to ensure there is a level playing field and indeed create a
race to the top where countries want to demonstrate they have fully
implemented a standard of excellence as opposed to a race to the bottom.
Senator L. Smith: I want to try to take this down from a macro to
a micro level. Moving ahead, can you give me your thoughts; what are we
looking at in terms of the world economy, how it affects Canada and trying
to simplify it? There are a lot of people who do not necessarily understand
what we have been talking about. I am not trying to be rude or anything, but
for the average Canadian person in two groups, the boomers and the younger
generation that are just starting off in their lives, what type of message
can we give them? Hopefully out of this study we will be able to have
messages to pass on.
Mr. Carney: That is a fair question. First, things have changed.
People should know that the structure of the world economy and the patterns
of growth outside our borders have changed, and that has implications for
First and foremost, the United States economy is not what it was prior to
the crisis. In fact, the United States economy was not what it seemed prior
to the crisis, I should probably say, in the latter years. Probably the most
effective way to look at the U.S. outlook is that the U.S., to simplify, is
a few years into a decade-long process of repairing the household balance
sheets. They are sitting around kitchen tables, they are trying to save a
little bit more and that is having a consequence on demand for our products.
The United States, which used to grow above 3 per cent, is now growing
less than 3 per cent on average. Occasionally it will have a spurt of growth
that is stronger because there is a monetary or fiscal initiative, but then
the more fundamental forces will reassert because people are month by month,
quarter by quarter, year by year repairing their balance sheets. That is
what is happening. The U.S. economy, as a consequence, is going through a
difficult adjustment, but it is starting to go through that adjustment.
The second thing that is relevant, Canada, in which many of our
businesses have been oriented north-south, ideally would be oriented more
east-west. If it is south, it is jumping over the United States.
Just to reinforce, the United States is growing more slowly but it is not
stopping. ``Reclining,'' not ``declining'' is the word we have tried to use.
With respect to emerging markets, the other thing is that the major
emerging market economies of China, India and Brazil are growing strongly.
They are providing more than one-half of the global growth, which has
tremendous and positive implications for Canadian exports, certainly of
commodities and investment in commodity industries. It also has tremendous
positive implications for other businesses, provided we orient ourselves to
take advantage of those opportunities. That is again a decade-long type
process, in order to put Canada in a position to fully take advantage of
The third thing that people need to know is that in most major advanced
economies — Canada and only a few others are exceptions to this — there are
major challenges with sovereign debt, government debt. That will require a
sustained period of getting government balance sheets back in order. Those
two headwinds will reinforce each other.
The last thing I would say for people, from an external force
perspective, is that this is a disruptive time. A major series of changes
are going on in the structure of global growth, in trade patterns and in
capital flows, so there will be some volatility. You look back to Canada and
what do you do about it? What does it means for Canadians? It means that if
you are working in an export industry, you or a colleague will be getting on
a plane and going farther than you are used to. If you work in a commodity
industry, you will be investing more and you will be working harder or more
people be working alongside you. If you are managing your own personal
affairs, you will want to be careful not to get overextend in an environment
that will be more volatile. The last thing you can and should take is some
comfort from the fact that the core institutions in this country are amongst
the best in the world. We have a strong financial system, despite the
complaints of the CEOs. We have one of the best fiscal positions in the
developed world. The government is taking steps and various governments have
taken steps to improve that and return it to fiscal sustainability. We have
price stability in this economy. The Bank of Canada has an inflation target;
we have a clear mandate. We will take appropriate steps to meet that target.
Those building blocks provide certainties in a world that is full of
opportunity but also has some volatility that is unusual.
Senator Oliver: I am interested in the questions raised by Senator
Moore in Basel III. I asked a similar question the last time you were here,
Governor Carney. You were talking about the different types of tier capital
and how they will be enforced. At that time, you said that they would be
enforced by peer groups and by the Bank of Canada.
Do you not need some kind of global or international enforcement
mechanism to make them realistic, or when it comes to things like risk
waiting you will rely on what an individual country will do? Is that enough
to given us the security that we need?
Mr. Carney: The short answer is that, as Mr. Macklem said, there
is not a treaty-based enforcement mechanism. There is not a dispute
resolution mechanism that would you have with trade.
Senator Oliver: Should there be?
Mr. Carney: I guess in a perfect world there would be, but I would
say there is no chance of this rising to the level of a global treaty that
has been ratified by all the major parliaments, including the U.S. Congress.
The Basel Accord is consistent with the provisions of the Dodd-Frank Wall
Street Reform and Consumer Protection Act in the U.S. The U.S. authorities
are able to implement them, and it is their responsibility to implement
them, as it is our responsibility and the responsibility of the Europeans.
The advantages we have — and I do not want to sugar-coat it; it is an
issue that we need to track, as Mr. Macklem said — is that we now have
regulatory colleges set up where you have multiple regulators for the same
banks so they can see a lot of this information. We have Mr. Macklem's
committee and various support committees of that which will monitor the
approaches. We have an industry that is looking at each other and will call
out each other if they see trends that are inconsistent with it as well. We
also have the IMF that we can use on a macro basis. It is not perfect, but
we are working to make sure it is as good as it can be in a second best
The last thing I will say is what does not make sense in any environment
is for Canada to try to game the system. We are where we are in part because
we have implemented rules effectively, consistently and, in some cases,
faster than others have. The credit to that goes not only to the
institutions but, ultimately, to the regulator, to OSFI as well. I am
confident they will ensure that continues to be the case.
Senator Hervieux-Payette: First, on the issue of household debt,
for young couples, the rules changed recently. They went from 35 to 30 years,
from 90 per cent to 85 per cent. I bought a house in Europe, and they
applied the rule of 15 years and 65 per cent there. There is a big
difference between our borrowing rules and theirs. Would it not be
favourable to move toward less debt load and more savings? Because,
ultimately, you need 35 per cent to buy a house, instead of 15 per cent of
the value, so people would be less exposed. This would change the rules a
little. I am not talking about doing it overnight, but what would the
optimal rule be?
If you had to choose between job creation, indebtedness and productivity,
which of these sectors would you target tomorrow to find solutions so that
we can pass on to the next generation good quality jobs and a minimal
Mr. Carney: That is a good question. Both of your questions are
very good. With regard to the optimal rule, I would have to say that, in
some way, it would depend on the structure of the banks and the structure of
the mortgage system in a country. We have an overall mortgage system, with
the CMHC, that is very effective and that supports a level of indebtedness
that is higher than in Europe. There are still questions about the balance
of the system in the long term. The Minister of Finance is ultimately
responsible for the rules of Canada's mortgage system.
As we have mentioned a number of times, on three occasions, the minister
made the decision to tighten the rules here in Canada, quite prudently. We
at the Bank of Canada agree with the finance minister's decisions.
So, there were two questions. With the level of balance, and I do not
want to give an opinion on that right now, but clearly we must be prudent in
striking a balance.
The second question was basically, must I make a choice between jobs and
productivity? We cannot really choose between the two. They are both
indispensible in a flexible and high-quality economy.
The Chair: Thank you very much. I promised you would be out by 6
p.m. and it is now 6:02 p.m. I did not respect my promise 100 per cent but
we did the best we could. I had to disappoint senators that had other
Mr. Carney: It is 5:58 p.m.
The Chair: I like your watch better than mine.
I am sorry I disappointed some senators who had other questions. You can
see how interested and grateful we are for your presence today. It has been
a useful session and has given us some food for thought in terms of our
ongoing study of the Canadian economy. You have helped us immensely. I hope
people listening got some insights, as I am sure they did.
You are now free. We appreciate your presence here today..