Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce

Issue 32 - Evidence - April 24, 2013

OTTAWA, Wednesday, April 24, 2013

The Standing Senate Committee on Banking, Trade and Commerce met this day at 4:16 p.m. to examine the present state of the domestic and international financial system.

Senator Irving Gerstein (Chair) in the chair.


The Chair: Good afternoon colleagues, members of the media and the viewing public. I call this meeting of the Standing Senate Committee on Banking, Trade and Commerce to order. Joining us today is the Governor of the Bank of Canada, Mark Carney, accompanied by Deputy Governor Tiff Macklem.

Today is, needless to say, somewhat bittersweet. Governor, your regular appearances before this committee are always looked forward to with great anticipation, and it is with mixed feelings that we recognize that this is your final appearance before our committee. A recent article in The Globe and Mail indicated that central bankers are now described as superheroes and went on to say ``no one embodies this new high profile better than Mark Carney.''

Honourable senators, while I doubt the governor can leap tall buildings in a single bound, I am sure you will agree he has proved his mettle as Canada's central banker over the last five years.

To discuss the bank's recent projections, its most recent Monetary Policy Report, and to give an update on the overall health of the Canadian economy, the floor is yours, governor.

Mark J. Carney, Governor, Bank of Canada: Thank you for the kind words. I am sure at the end of the next two hours, those superlatives will be disabused. We look forward to your questioning. As we said yesterday, these appearances are an important part of the Bank of Canada's accountability to Parliament but also to Canadians, and we greatly appreciate your focus, effort and the accountability you provide.

Mr. Macklem and are very pleased to present the April Monetary Policy Report, which the bank published last week. In it we note that global economic growth has evolved broadly as the bank had anticipated in our previous report published in January. In the United States, the economic expansion is continuing at a modest pace, with gradually strengthening private demand partly being offset by accelerated fiscal consolidation.


Significant policy stimulus has been introduced in Japan. Europe, in contrast, remains in recession, with economic activity constrained by fiscal austerity, low confidence and tight credit conditions.

After picking up to very strong rates in the second half of 2012, growth in China has eased. Commodity prices received by Canadian producers remain elevated by historical standards and, despite recent volatility, overall they are little changed since January.


The bank expects global economic activity to grow modestly in 2013 before strengthening over the next two years. Following a weak second half of last year, growth in Canada is projected to regain some momentum through this year as net exports pick up and business investment returns to more solid growth.

Consumer spending is expected to grow at a moderate pace over the projection horizon, while residential investment in Canada declines further from historically high levels. Growth in total household credit has slowed, and the bank continues to expect that the household debt-to-income ratio will stabilize near current levels.

Despite the projected recovery in exports, they are likely to remain below their pre-recession be peak until the second half of 2014, owing to restrained foreign demand and ongoing competitiveness challenges, including the persistent strength of the Canadian dollar.

On a quarterly basis, growth in Canada is expected to pick up to about 2.5 per cent in the second half of this year. Despite this expected rebound, with weak growth in the second half of last year, annual average growth is now projected to be 1.5 per cent in 2013. The Canadian economy is then projected to grow by 2.8 per cent in 2014 and 2.7 per cent in 2015, reaching full capacity by the middle of 2015. This is later than the bank had anticipated in January.

Total CPI and core inflation have remained low in recent months, broadly in line with the bank's expectations in January. Muted core inflation reflects material excess supply in the economy, heightened competitive pressures in the retail sector and some special factors. Total CPI inflation has been restrained by low core inflation and declining mortgage interest costs, with some offset from higher gasoline prices.

Both total and core inflation are expected to remain subdued in coming quarters before gradually rising to 2 per cent by the middle of 2015 as the economy returns to full capacity, the special factors subside and inflation expectations in Canada remain well anchored.


The inflation outlook in Canada is subject to upside and downside risks, which are similar to those identified in January. The three main upside risks relate to the possibility of stronger-than-expected growth in the U.S. and global economies, a sharper-than-expected rebound in Canadian exports, and renewed momentum in Canadian residential investment.

The three main downside risks relate to the European crisis, more protracted weakness in business investment and exports in Canada, and a possibility that growth in Canadian household spending could be weaker.

Overall, the Bank of Canada judges that the risks are roughly balanced over the projection horizon.


Reflecting all of the factors I have just outlined, on April 17, the bank maintained the target for the overnight rate at 1 per cent. With continued slack in the Canadian economy, the muted outlook for inflation and the constructive evolution of imbalances in the household sector, the considerable monetary policy stimulus currently in place will likely remain appropriate for a period of time, after which some modest withdrawal will likely be required, consistent with achieving the 2 per cent inflation target.

With that, chair, Mr. Macklem and I would be pleased to take your questions.

The Chair: Thank you for your opening remarks, governor. I will move immediately to my list of questions from senators.

Senator Tkachuk: Thank you very much, Mr. Carney, and welcome to you and Mr. Macklem.

What would you consider to be — because you are leaving, going to another country — your most significant achievement in your term as governor of the bank?

Mr. Carney: I think the core responsibility of the Bank of Canada is to maintain confidence in money. Our ultimate responsibility is to protect the external value of money in Canada, and I will give you a multi-faceted answer.

The core is to maintain that confidence during a period of big shocks. That is manifested in a couple of ways. First and foremost is price stability, the evolution of inflation consistent with the inflation targeting regime. Unless we have a very dramatic last month of inflation in Canada, over the course of the past five years, the record of inflation in Canada will be slightly below two percentage points, but with the lags in monetary policy, some of the legacy of the governing council I participated in will come to pass in the coming quarters.

In that context, what has been important, given the shocks that we have experienced in Canada, is that the governing council and the monetary policy decisions of the bank were able to prevent marked disinflation and certainly prevent deflation, so we were able to avoid the risk of inflation falling below the bottom of the band and potentially falling prices. In that context and because of those reactions, we were, along with the Government of Canada, the Canadian private sector and the Canadian financial sector, able to support the strongest recovery of the major advanced economies and expansion of the major advanced economies during this difficult time. That is the first element of confidence.

The second element of confidence is that, again, the work Mr. Macklem and I helped oversee to build on the investments that were made by the bank under Governor Dodge, when Senator Massicotte was the director of the board at the bank, to reduce counterfeiting in Canada. There was a three-pronged strategy put in place.

I believe we have effectively continued that, and the most recent counterfeiting figures have shown the dramatic fall in the level of counterfeiting. Just to give the figures for the benefit of the committee, counterfeiting peaked at about 440 notes per million notes in the earlier part of the last decade. A concerted strategy has now brought that through the international standard of 100 notes per million and down to the most recent figure of 30 notes per million. With the launch of the new polymer-based notes, we believe we will, working with law enforcement, decisively address counterfeiting in Canada and extend that record.

The third element of confidence that the bank participated in and supported, working with the federal government, OSFI, CDIC and other agencies, was our contribution to maintaining the resilience in the Canadian financial system, which contributed importantly to the recovery and the expansion of the Canadian economy. The bank's role was to provide, during the most difficult times, significant liquidity directly to financial institutions and, more broadly, to the market and to work with our federal colleagues and international colleagues to develop and implement a series of reforms that have further enhanced the resilience.

The last point I will make, which is the obvious, is that I participated in all of these efforts. It has been an honour to be governor during this period, but in no way, shape or form is it the consequence of my presence. It is the consequence of the institution and the depth of the institution.

Senator Tkachuk: What would be the largest financial challenge facing Canada that you see in the future?

Mr. Carney: I will give you two, if I may. One, which we may end up discussing, and have discussed in the past with this committee, has been the health of household balance sheets in Canada. As we note in this report and as we have noted elsewhere, considerable progress has been made in arresting the deterioration of household balance sheets and the associated risks in the housing market, but the collective ``we'' will need to maintain vigilance on this situation to ensure that we continue that constructive evolution over the coming quarters and years.

The second the biggest risk to the Canadian financial system, apart from natural economic shocks in the Canadian economy, springs from the evolution of the global financial system. There is a risk that there could be excessive ring- fencing in the global financial system as a reaction to economic weakness or in replacement for more coordinated international reforms. I would say that, as an open economy and as an economy with one of the most resilient financial systems in the world, this is very much not in our interests, which is why the Bank of Canada has invested so much in helping to develop those reforms and looking to ensure that they are implemented in a timely and consistent fashion in all the major economies.

Senator Harb: Mr. Carney, on November 4, 2011, you became the President of the Financial Stability Board. Are you still the president now?

Mr. Carney: Yes, I am.

Senator Harb: Just a few weeks before you became the president in October 2011, the Financial Stability Board issued guidelines to the G20 at one of their meetings. Those guidelines were entitled Key Attributes of Effective Resolution Regimes for Financial Institutions, which dealt with the risk associated with systematically important financial institutions. The federal Minister of Finance issued his economic plan update in 2013, and I will quote from his statement. He said:

The Government intends to implement a comprehensive risk management framework for Canada's systemically important banks. This framework will be consistent with reforms in other countries and key international standards such as the Financial Stability Board's Key Attributes of Effective Resolution Regimes for Financial Institutions, and will work alongside the existing Canadian regulatory capital regime. The risk management framework will include the following elements . . .

It strikes me as verbatim from the Financial Stability Board before the G20, which is great. Did you push the Minister of Finance to incorporate those as part of his statements, or was it a stroke of brilliance on his part?

Mr. Carney: The Government of Canada first supported the development of those key attributes of effective resolution regimes and subsequently supported the efforts of all members of the FSB of the G20 to implement them. This is an extremely complicated set of issues, and it is extremely important to move forward with all deliberate speed on it. Taking these key attributes and translating them into the appropriate legislation and regulations, not just in Canada but globally, will be absolutely essential to ending too-big-to-fail and ensuring that systemically important financial institutions, large cross-border banks, can be resolved in a manner that does not cause broader systemic stress.

I would give some broader context on timing. The United States has effectively implemented their version of this through their Dodd-Frank Act, which is similar to much of their financial regulation. All other major jurisdictions are in the process, very much like Canada, of moving towards legislation and regulatory changes. It is most important to note that the European Union is in the process of debating, as they did just two weekends ago in Dublin, the contents of what is known as a resolution recovery directive, which effectively translates the key attributes into European first level regulation. That would then be translated into national legislation and regulation.

Canada is working with the European Union and the Americans through the Financial Stability Board to ensure that these resolution regimes fit together. One of the most important and complicated elements is that if a foreign bank were to fail, it would be necessary to take a coordinated set of steps to ensure that it is resolved effectively and fairly to creditors across various classes.

Senator Harb: Many people, including you and me, are concerned about the exchange rate being impacted by monetary policies, whether in the United States, Japan or elsewhere. Ultimately, those policies impact not only the exchange rate but also the value of our currency and how we do business.

To what extent are you or is the bank involved in working with other central banks to develop some sort of standard so that we do not undercut one another in an unfair manner? Has there been any discussion?

Mr. Carney: Yes. It is an important question and there have been important discussions on the issue. The thrust of those discussions, captured in a G20 agreement in Moscow in February, is that to reassert and reaffirm the principle that monetary policy, including unconventional monetary policy, is targeted for domestic purposes. Canada is a perfect example of how it is anchored around a domestic nominal target — in our case the 2 per cent inflation target and in the case of the Bank of Japan its new 2 per cent inflation target.

The first element is to ensure that central banks are focused on their domestic objectives. We all have to recognize that there are international spillovers from any monetary policy. We look at the various quantitative easing programs of the Federal Reserve, and in our analysis we weigh the potential impact on the Canadian dollar, which all other things being equal would be to increase its value and make it appreciate relative to the U.S. dollar, which has a restraining effect on exports, as you say, and potentially on confidence, depending on how sharp it is. We then weigh that against the extra demand for Canadian goods that we get from the United States as a consequence of U.S. policy. Within the last two years or so we published a point estimate around the first quantitative easing program from the Federal Reserve and said that in our estimation this was net positive for the Canadian economy.

The efforts of the Bank of Japan are much less direct, as you well know, as trade links between Canada and Japan and potentially the portfolio balance effects where this money goes outside of Japan will be less directly to Canada. That would be our initial impression, but we will see. In the end, given what we know, this program is net positive for global growth and therefore for Canada.

We have these discussions, and it is very important that we understand the objectives of our international colleagues in their conduct of monetary policy and that they understand what we are trying to do with ours so that we have a more effective global picture.

If someone were attempting to use monetary policy more directly to affect the exchange rate, it would be taken up directly within the G7, if that is the appropriate forum, or the G20.

Senator Oliver: The Minister of Finance deals largely with fiscal matters, and the bank deals with monetary matters such as inflation targets and interest rates and so on. Mr. Carney, as you get ready to leave Canada and go to another jurisdiction, I would like to call upon your extensive global experience and ask this: Does the Bank of Canada require additional tools to implement its monetary policy in Canada? Do other central banks that you have dealt with in other countries have tools that we do not have in Canada that may be useful to Canada in carrying out what you have to do with monetary policy? If so, what are those tools and could they help Canada?

Mr. Carney: In the domain of conventional monetary policy, the Bank of Canada, in my view, has all the tools that we need to achieve our inflation objective. Our principle instrument is the overnight interest rate. We have a series of liquidity facilities that we could put in place if necessary to help ensure that the transmission of monetary policy is effective in the event of shorter-term shocks to the financial system, as was the case in 2008-09, when we put in place considerable liquidity facilities, as you know. Part and parcel of our ability to meet our inflation target is the commitment that Canada has, jointly with the Minister of Finance as government policy, to a floating exchange rate in Canada so that we are not deflected from our core objective of meeting that inflation target by chasing an exchange rate target.

The answer to the question would change in the hypothetical situation of exhausting our conventional monetary policy room and dropping interest rates to as low as they could go.

In April 2009, the bank published as an annex to the Monetary Policy Report its framework for unconventional monetary policy. The first element of that was communications. If you recall, we put in place a conditional commitment to keep interest rates low and to communicate clearly that we expected to keep interest rates low for a period of time — in that case 15 months. That was effective. By more transparent communication and by an element of pre-commitment, although it was conditional, we provided greater transparency and substituted duration of time of stimulus for level of interest rates.

If we had faced a shock on the order of magnitude of the United States, that in and of itself would not have been enough, and we would have had to move to other potential measures, which could potentially include quantitative easing and/or credit easing.

The distinction we make is in the quantitative easing, as we define it. The purchases would be of government securities in an effort both to get down the level of interest rates farther out the yield curve, but also to have a portfolio balance effect. By this, we mean displacing investors from whom we buy those securities into riskier assets and through that, improving the prices of those assets providing stimulus through the corporate bond market, equity market, et cetera. That is effectively what the strategy of the Fed, the Bank of England, and the Bank of Japan is at the moment.

If we were to do that, though, we would take on some balance sheet risk. We would buy more government securities and there would be potential fiscal consequences for a period of time if we continued to hold those securities and interest rates were to adjust up. It is our judgment — and I believe the judgment of the Government of Canada as well — that fiscal decisions are the responsibility of the Government of Canada. There would have to be an arrangement, some form of an agreement between the bank and the Government of Canada that appropriately circumscribed how much we could do so the government had a sense of the fiscal amounts. This has been the case, for example, in the U.K., where there is an exchange of letters between the chancellor and the Bank of England that set out blocks of asset purchases.

The last class of activities is to move further out the risk spectrum and purchase actual private securities directly. It could be corporate bonds, asset-backed securities or other aspects of that. There is experience in the U.K. and potentially in other jurisdictions — we will see — where arrangements are made to provide financing to banks over a longer term in order to encourage them to lend directly to certain classes. This is the so-called funding for lending scheme in the U.K. Again, in those situations the central bank is providing stimulus and taking on some additional risk that could have a fiscal cost.

Our view would be that if that hypothetical situation were ever to come to pass so that the bank was at the zero lower bound, the rates were as low as they needed to go, we were not going to make the inflation target in a timely way without providing additional stimulus, the bank would need to make the case to the Government of Canada. An arrangement would have to put in place with the government to ensure that that temporary unconventional policy was, in their judgment, appropriate.

Senator Oliver: This committee is a legislative group. Is there any new legislation in terms of helping the bank do its work with the monetary policy that you would like to recommend we look at arising from any of the central banks, and particularly in the G7 that you have worked with and dealt with, apart from what you have already outlined?

Mr. Carney: In terms of the conduct of monetary policy, no. The organization of financial stability responsibilities is different in every G7 country and so there are different paths to that, which would be a legislative consideration. However, I would not necessarily advocate a one-size-fits-all approach in that regard, either.

Senator Oliver: I would like to be put down on the second round. I would like to ask about single supervision mechanisms in the European banks.


Senator Hervieux-Payette: Governor Carney, first of all I would like to tell you, as a Quebecker, that I have always appreciated the quality of your French. During your stay in London, I would suggest that you see Madam Lagarde on a regular basis to ensure that you do not lose your French when you come back in five years. For people listening to the proceedings of this committee, your presence is important, not only in English Canada but also in our province. I feel that your time at the Bank of Canada was appreciated by the people in my province.

I have a practical question about a situation with which I am familiar. I was wondering whether the Bank of Canada has the tools to link mortgages and personal loans. I would like to know if there is a correlation there.

We know that banks give personal loans at 7, 8 or 9 per cent for the CMHC-required personal contribution before a mortgage can be approved. So people wind up with two debts, the mortgage and the personal loan, which is more costly. So for a house worth $450,000, these people would borrow 10 per cent of the amount, $45,000, as a personal loan, and the rest would be as a mortgage.

Does the Bank of Canada have the tools to verify whether or not people are circumventing the rules implemented by the government to ensure that a person purchasing a house must make a 10 per cent deposit from his or her savings? I would think it is concerning to think of people borrowing for two loans and thereby increasing their fiscal burden. This was, since you have been Governor of the Bank of Canada, one of your concerns for quite some time as well.

Mr. Carney: First of all, I am somewhat embarrassed by your compliments on my French, which is not so remarkable, but not so bad either given that I come from a suburb of Edmonton.

This is a very important issue. You have identified a problem and a challenge. When it is time for the bank, and the CMHC for mortgage insurance, to make a decision, individuals are responsible for revealing all of their loans. From time to time, there are situations such as the one you described. When a new line of credit is provided, for example, the process is renewed. The Bank of Canada has no tools for this. It is more of an issue for the CMHC and the OFSI.

Senator Hervieux-Payette: Senator Harb and I did not consult with regard to the questions for the Financial Stability Board, to which we know you were appointed for 10 years.

I have read the directives. There may be some room in there for what I would like to talk to you about. It may not be your main priority but it should not be too far behind.

The committee has just completed its report on money laundering. The RCMP tells us that Canada is losing between $5 and $15 billion per year. We are learning more and more about tax havens and realizing that we are losing out on considerable sums of money. This problem impacts the entire international financial system. No country can act alone to deal with this problem. The G20 countries have to examine the issue and set out rules. Money is circulating in a number of countries and transits through a number of banks. Unfortunately, this results in a kind of laundering of dirty money. Tax evasion also means crime; the mob also means money obtained illegally.

Are these issues on your agenda? Or can I suggest that you add them to your agenda?

Mr. Carney: Thank you for your question. It is a very important point. In a way, money laundering issues are more in the domain of the Financial Action Task Force (FATF). I will soon be giving the floor to Mr. Macklem, who worked at the FSB.

Secondly, regarding the coordination of the fight against tax evasion, I believe we are starting, that is, the G20 Ministers of Finance, are starting to make progress by exchanging information and data. A process was implemented in Moscow in February. There will be an OECD action plan for the St. Petersburg summit in September. It is not absolutely certain but the possibility exists. There is a momentum building. There is a certain rhythm for this in the larger advanced countries. For example, it is a priority for Great Britain at the G8.

The possibility exists. If I may, Mr. Chair, Mr. Macklem has something to add.

Tiff Macklem, Senior Deputy Governor, Bank of Canada: I just want to add a few words about the regulation and monitoring of banks and businesses. As we can all agree, these businesses have global activities and we must therefore use a coordinated global approach. One aspect of that is taxes. Another aspect is regulation of the financial and business sectors.

One aspect of the work at the Financial Stability Board is that we look not only at countries within the board — there are 27 countries that are part of the board, it is a big world out there — but there are many other countries. When we increase standards in the countries that are part of the board, it is important that other countries not make these standards inadequate by having lower standards that would cause businesses and financial institutions to move their operations to these other countries.

The main tool for this is the exchange of information. Countries sign agreements to exchange information. To be a little bit more specific, if you are a financial authority in France and there is a business with operations in a tax haven, you need to exchange information to see what is happening in the tax haven.

The Financial Stability Board has created a system with the IMF, with the standards setters, to assess other countries and encourage them to sign these information exchange agreements.

To be brief, we have made a lot of progress, things are not perfect but many of these agreements were signed. The fact that the G20 really emphasized this issue has increased the commitment in a number of countries. It is working fairly well but there is still some work to do.


Senator Black: Mr. Carney thank you very much for the contribution you have made and best of luck in your new responsibilities.

Mr. Macklem, if we are to believe what we read in the press over the last day or so — no, I am not going there — thank you for putting your name forward.

Mr. Carney, I am a senator from Alberta. The question that is very much on Albertans' minds and, I think, on many Canadians' minds, relates to export access for oil and gas for energy. In your remarks before this committee last year, you talked about the problems that the price differential for a Canadian product could potentially have on Canadian economic momentum.

I wonder now, a year later, whether you could describe the impact that this lack of market access could have or has had on Canada's economic growth as well as any continuation of that problem, as far as you can see it from your vantage point.

Mr. Carney: Thank you, Senator Black. You have raised an important question. It has been an issue that has, obviously, medium- and longer-term consequences for the Canadian economy, not just the Western economy or the Albertan economy. However, it has also been an issue, as you alluded, that has affected the shorter-term dynamics of the Canadian economy. Let me give you one example, and then I will answer the question.

About a year and a half ago — we detailed this in a previous Monetary Policy Report — we had a very large run-up, partly because of geopolitical factors, in the price of Brent crude. There was an associated increase in the price of WTI, not quite as much. However, there was a very large differential at the time, a historically large differential, that opened up with WCS, so Canada, for the first time since the bank has published projections in the late 1990s, had a situation of a rise in global commodity prices, particularly energy, and it was net negative for the Canadian economy at that time. I think many of us are familiar with the fact that in Central and Eastern Canada the relevant crude price for gasoline is the Brent price, the North Sea oil price, because that is the flow, as opposed to the lower price in Western Canada.

That is the first point. We spend a bit of time in this report touching on exactly the issue you are raising.

In the very short term, one of the things that have happened globally in the last three months is that commodity prices as a whole have fallen, and in some cases they have gone down fairly sharply, in adjustment to slightly slower global growth. We saw that in base metals, for example, copper, iron ore and that kind of thing.

For Canada, because momentarily that differential has narrowed for WCS, commodity prices have held up. Natural gas and lumber also went up a bit as well, but it was the oil move that kept commodity prices up. That is supported growth, if this holds going forward. We do not think it necessarily will because of another factor, which is uncertainty. As you are well aware, the constraints on energy infrastructure, the transportation constraints on oil in Western Canada, mean that very small variations, if there is an outage or if there is less oil flowing through because Suncor, as an example, in recent quarters has shut down a facility, that differential narrows and comes back up. However, if there is a bit of pipeline that is down, rail congestion or other factors that prevent oil from coming out, the differential shoots back up again.

It is quite clear on page 15, where we compare the volatility of WCS versus the other crudes, and it is at least twice as volatile. That combination of lower price and higher volatility, we think, is starting to hit investment in the oil patch.

The last thing I would say, by way of context, is that we took a look, in the spirit of accountability, at what our projection was this time last year, when we came to this committee, versus what actually happened for 2012. We calculated the differences, and the net was that growth was about 0.7 percentage points lower than we otherwise would have forecast — the actual outcome.

Two factors drove that. The first was that exports were much lower, and we should talk about that if we have time. I will not go into all the details. It was a bit of an element of those exports being lower exactly because of this issue, namely, transportation constraints on the energy side.

However, the other aspect was investment was lower than we would have expected. There were a fair number of factors, including uncertainty in the global economy, which we think hit. We do think that, based on industry surveys, talking to the companies and what we are seeing in actual engineering, engineering activity was lower. That was in the energy sector, which was part of the investment. This dynamic has affected investment over the course of the last year, and our concern would be that if the volatility and the price differential persist, it will affect investment over the horizon with knock-on effects for the level of growth in Canada.

Senator Black: Can you explain the productivity gap between Canada and the U.S.? What should we do about it?

Mr. Carney: We can explain components of it. We cannot explain all of it. Some of it will be measurement. We have seen historically in the past that Canadian productivity numbers tend to be revised up and American numbers tend to be revised down. The scale of the level gap is almost 30 percentage points, economy wide, so it is clearly not just a measurement issue.

Some of it is the transition of the economy, in part in the energy and resource complex. As projects are put in place, the productivity benefits of them accrue only once a project is up and running, for example the oil sands. However, it is not of the order of magnitude to explain this.

We under-invest in all the drivers of productivity, whether in R & D, machinery, equipment and, very importantly, training; but that is not a root cause, if you will. The question is why do firms under-invest. We think that a variety of aspects drive it.

Part of it is competition, which we are seeing in the retail sector. Thanks, in part, to the Senate report focusing on price differentials in the retail sector, we are seeing more competition there. Surprisingly, productivity is picking up in the retail sector in Canada quite nicely, and price gaps are starting to shrink.

We think that part of it is the management skill issue. We are doing some research that will not mature while I am still here, so I am sure Mr. Macklem will be happy to speak to it when it does mature. For small and medium-sized enterprises in Canada, what are some of the drivers? There is some view, and we are looking into this so I am not saying this is definitive, that there is a series of cliff effects that affect the incentives for small and medium-sized enterprises. In other words, there is a series of tax advantages and other programs that support them that fall away very quickly once you get to that threshold of a small and medium-sized enterprise. It does not follow that we would say that a government should make a decision to remove all of that because it has to be made in the context of broader fiscal realities.

Senator Black: Thank you very much.


Senator Massicotte: Welcome, Governor, I know this is your last presentation for the committee before you leave. I will take this opportunity to thank you, on behalf of Canadians, for your services. You have served us very well and we are all very thankful for this.

Since we have the benefit of your expertise, I would like to ask you to take, as senator Tkachuk said, a more comprehensive perspective. We can see that since 2007-08, the world economy has had a great deal of difficulty finding stable growth. Things are going well in Canada thanks to your efforts and to the institutions we have.

More recently there has been talk of the Lost Decade in Japan, and we will soon be talking about the same phenomenon in Europe and a number of other countries. What suggestions could we make? For five years, we have been hesitating; are there any lessons to be learned, and is there anything we should make sure we never do again?

Mr. Carney: Yes, this is a fundamental issue and one we discussed with Ms. Lagarde in Washington during the week end of the International Monetary Fund. Unfortunately, our discussion was in English and not in French. I will have to translate. There are a few lessons — this is a bit of an attempt — but first, when there is a problem in the banking system, we have to act quickly and decisively using equity and more equity than our regulators, supervisors and governments think is required at the time. We have to act. We have to act quickly and decisively.

Second, we have to recognize that monetary policy can support demand but not growth. It will not sustainably increase an economy's potential growth.

As for Japan and the European Community, there is not much flexibility in the budget. There is a big debate on flexibility but that is not the fundamental answer. It is more an issue of structural reform, increased labour market flexibility, an expanded goods and services market, targeted investments in research and development as well as infrastructure, and initiatives that increase the economy's productivity.

Why? In a sense, it is obvious. It is absolutely obvious. This is always the case, but in order to instil confidence and create an environment in which businesses will want to invest, truly invest, you have to have a future that is more optimistic than the present.

If you will allow me, I will continue in English.


We are learning that providing stimulus only through monetary and fiscal policy — we know this but we are having this point drilled home — does not change the structural potential of the economy, does not change the real rate of interest over time and does not push the economy to adjust to a higher path. The mixture is the absolute necessity of structural reforms. Currently, Japan has a strategy that they describe as the three arrows, which you no doubt have heard about, that is monetary and fiscal. However, those are only bridges, so what will truly matter will be the structural reforms that the government brings forward in the coming months.

To avoid a decade of stagnation, although there are responsibilities without question on central banks and fiscal authorities, it really falls on these tougher structural decisions to change the investment prospects and increase the return on capital. There has not been enough of that coordinated with the efforts on the monetary fiscal side.

Senator Massicotte: I go back to the first point you made about the need to remedy or repair any problem with a financial intermediary of sorts. Yesterday in the House of Commons Finance Committee you talked about the need for a structure to be put in place to take control of the institution but to provide safety by way of convertible preferred bonds of a sort. I read your testimony from yesterday in the Commons committee. I can appreciate what happened in Cyprus, but you gave the impression that the depositors should not worry and that given all the cushions in place and the safety of capital, there are never any risks. Therefore you give the depositor the impression that he should go to any institution that gives the highest interest rate, given the $100,000 comfort level, convertible bonds and debentures. However, I presume that is not the case because I think you want to cause competition among financial institutions to that deposit.

Could you clarify what the risk is, without scaring the markets? I think there has to be a risk, or otherwise we will all go —

Mr. Carney: Exactly. This is an important question and is related to Senator Harb's question in terms of resolution mechanisms that are being put in place across the G20 and, as the senator referenced, that the Minister of Finance noted in his most recent budget would be brought forth in Canada. If I may, I would like to reaffirm and make it absolutely clear that Canadians can and should verify which deposits are covered by the CDIC guarantee. You can have deposits across a wide class of accounts, ranging from trusts to RRSPs — deposits in RRSPs, not mutual funds in RRSPs — to regular savings accounts, chequing accounts. There are $100,000 by institution, by individual, by classes. There are of course other deposits that are not covered by CDIC insurance. Deposits above those amounts are one example.

In designing a bail-in regime, a resolution regime, the first principle I would suggest, consistent with the key attributes, is to be absolutely clear about the creditor hierarchy. If a bank were to fail, where do the creditors go for funds? It should start with the shareholders. It would then go to the subordinated debt class and then there is logic that it would then go to unsecured debtors. A bank issues bonds, and Canadian banks issue a considerable amount of unsecured debt, so it would go to that class. The question is then what would be done with uninsured deposits, and those are determinations that need to be made on each national level. Those are determinations that in the fullness of time the government and the Minister of Finance will bring forward with deliberate speed, after careful consideration, as they rightly do.

However, I will reference the comments from the spokesperson of the Minister of Finance on this issue that noted consumer deposits would not be affected by this. That is what is on the public record, and I do not want to say anything that is inconsistent with that statement on behalf of the minister.

Senator Nancy Ruth: I wanted to ask about the BRIC nations. Brazil, Russia, India, China and South Africa have called for an overhaul of the World Bank and the IMF, making comments about the way business is conducted there and those international financial institutions. They have called for the setup of a new development bank attentive to their needs by 2014. Do you support the overhaul of the World Bank of the IMF in terms of what the BRIC nations are talking about, and if so, in what ways? What do you think about a BRIC development bank, and how would that affect Canadian interests?

Mr. Carney: Thank you for the question. I will first note that the Minister of Finance is Canada's governor at the IMF and at the World Bank. The Governor of the Bank of Canada serves as his alternate and these issues fall directly within his purview. I would note that Canada has consistently supported reform of the IMF to make it more transparent, more accountable and to ensure that in effect its shareholdings — it is called the quota system — are more consistent and reflective of global economic weight.

To give the context — and this would be one of the reasons behind the BRIC initiative that you reference — the weight of European quotas or shareholdings, particularly in the IMF, is much larger than their weight in the global economy, and the weight of those major BRICS nations is much smaller than their new weight in the global economy. Canada has helped spearhead in different roles, and Mr. Macklem and I worked on these issues of reforms and adjustments to the quota system.

Under this government, Canada helped broker a very important step forward in 2010 that amended the quota of the IMF to make it more representative, and then Canada passed legislation associated with it. That reform is being held up because there are a few countries, most importantly the United States, that have not yet passed the legislation that is necessary to finish the agreement, to put it into effect.

Canada has worked very hard on these issues, and we think we have moved them a lot in the right direction. As the global economy continues to transform, further adjustments will be needed, and our colleagues at the Department of Finance are working on it.

Let me say another thing about the development bank of the BRIC countries. An initiative that potentially takes the excess foreign exchange reserves of the BRIC countries and puts them to more productive uses than sitting in the government bonds of major economies — that are yielding less than 2 per cent of interest — but capitalizes the bank and ensures that that capital supports lending into infrastructure and productive private sector development in these countries is absolutely a good thing. It is a good thing for those countries and for the global economy.

What is important for the global economy and global cooperation is that we continue to move forward with reform of the IMF to make it more accountable, more transparent, to ensure that it reflects the realities of the global economy. It is the locus of much of global cooperation, and we will continue to need that as the world moves from an advanced- economy-centric economy to a more multipolar world.

We support it, and Canada is engaged; it principally goes through the Department of Finance, and we support that work through some research and analysis. The last thing I will say is that, in my personal opinion, we have been early on these issues and very constructive in moving them forward. That is in Canada's interests because it helps build our relationships internationally.

Senator Nancy Ruth: I wanted to ask whether you are familiar with the Canadian Index of Wellbeing. Some of this research is coming out of the University of Waterloo. There is also a happiness index, which I am sure you have heard of, too. However, you have been talking about the productivity gap. This is, in some sense, about the income gap.

In your analysis and in your decisions at the Bank of Canada, do you deal with the limitations of the factor of the gross domestic product as a purely economic calculation, as a measure of well-being of Canadians, of social progress, and in the fullest sense? My hunch is you do not, but I am curious to know if you do. Are you familiar with the Istanbul Declaration from June 2007? There was a world forum on statistics, knowledge and policy, and they made a big push that there have to be other ways to count how the economies and life are doing.

Where is the Bank of Canada on this? Will you develop other, better indicators to apply to social progress, other than just confidence and money?

Mr. Carney: The issues you are raising are extremely important societal issues, and there is no question that the well- being and happiness of individuals are determined by much more than their economic circumstance.

We tend to have a visiting scholar or market practitioner at the Bank of Canada. About six years ago, John Helliwell, who is now a professor emeritus at the University of British Columbia and is the leading expert on the economics of happiness and well-being, was at the bank. We benefited from that, without question. Of course, as you may know, two of the biggest determinants of well-being are perceived equality and sense of community. There are indicators like health, and they are important, but a consistent finding in the research is that those factors are particularly important, and that is true across a wide range of society.

The bank has a very clear mandate, particularly with respect to monetary policy, which is the 2 per cent inflation target. The governance and the accountability of that is that the government — the people of Canada — gives that mandate to the Bank of Canada, and our job is to go out and execute against that mandate, and if we do not, we have to be accountable for it.

In their wisdom, Canadians, through their government, have set that objective for the Bank of Canada because price stability is one of the cornerstones of a successful economy, and price instability — high, variable inflation — affects the poorer parts of our society more directly and more severely than it does other parts of society. High variable inflation contributes to sharp and arbitrary increases of inequality of outcomes for those individuals, which clearly detracts from well-being.

We would never represent that price stability, financial stability or broader confidence in money, including low counterfeiting, is the be-all and end-all, but, in our view and in that of Parliament, in giving us this mandate, they are necessary building blocks. They are necessary building blocks for a successful economy and for a government and society that make determinations and policies that build well-being.

Senator Moore: Governor, I want to go back to last October when you appeared before us. At that time, looking at the bank's financial statements to the end of March of this year, I suggested to you that business earning was flat and that the low-interest-rate policy was not getting the business lending increase that you had hoped for. You said no; it is growing quicker than household debt and look at page 21. Well, governor, I have looked at page 21, and it has been nominal growth in the business sector, and, of course, residential mortgages have just gone up almost close to 100 per cent.

Do you still think I was wrong? In your numbers, I do not see a huge increase in business lending, but I see a huge increase in mortgage lending, which I am very concerned about.

Mr. Carney: If your supposition is that growth in business credit has not picked up over the course of the last year, then you are less than right.

Senator Moore: I am looking at your numbers here.

Is that a back-handed pat on the back?

Mr. Carney: I will give you a two-minute answer to this because it is important to the dynamics of the economy.

The red line on chart 21, page 19 in the English, is overall credit to business, and the horizontal red line is the longer- term average growth of that credit to business. You see quite a sharp pickup.

Senator Moore: Which number are you at?

Mr. Carney: I am at the Monetary Policy Report, chart 21, the solid red line. I will read it into the record as you are finding it. It picks up from a little more than 2 per cent at the annual growth rates at the end of 2011, to about 10 per cent at the end of last year, so it is at the time we were having this conversation. Now it has come back off.

The reason I highlight it is that in some respects it is quite welcome because we are seeing a sharp pickup in business lending — that is overall credit to business — at the time that we see a reduction in the rate of growth of household credit.

Now the question is this: Why is that picking up, and why is it picking up at a sharper rate than investment is picking up in Canada?

There is no question, in our view, that the stimulative monetary policy and the effective transmission through the banking system and capital markets are encouraging this pickup in business lending, but we feel that some of it — the last couple of readings of this support this — has been pre-refinancing of loans and bonds that are coming due. We note that in the text of the report. We have gone out to underwriters and to banks, and we have also asked these questions of businesses. We have expected it to come down, and it has come down a bit.

Some of it has been pre-financing, but some of it should be consistent with a pickup in investment. We do expect some pickup in investment in the latter half of this year. I think the overall message, though, is that when we look at what is happening to business credit — we do a formal survey of senior loan officers of banks every quarter and a survey of businesses across Canada every quarter called the Business Outlook Survey, and we report those results — everything indicates extremely attractive credit conditions for businesses to borrow money. The rate of business credit growth is being determined by demand. The firms have projects that they want to put into place, investments they want to make and are hiring to expand. Do they want to acquire another company in a foreign land? What is determining the use of credit as opposed to access to credit?

Senator Moore: Are they becoming more comfortable with the prospect of spending money on plant and acquisition than they were even at this time last year?

Mr. Carney: It is not clear they are, but the thing that is not holding them back is not access to credit. It is not the issue, and at page 26 of this report we report some survey evidence that indicates that.

The reason business investment has not been as strong has been uncertainty about demand. You have had some slowing of demand internationally and in Canada, so that investment accelerator has not come into play. However, we are still in a situation where cash on businesses' balance sheets is not earning anything, and, eventually, business people will look for those opportunities or redeploy the cash in other ways.

Senator Moore: At the same time, I was concerned that credit card debt was increasing. You responded that it was not, because it was going down, and people were converting to lines of credit, which have a lesser interest rate and, therefore, will not be as expensive and possibly as damaging. I was suggesting we are maybe creating a trap here for consumers being baited by low rates. Again, I look at the statements and the numbers, and there has been no big move from credit cards to lines of credit.

The credit card debt is still $76 billion, and the line of credit stays around $250 billion or $257 billion. I do not think that has happened. Perhaps you thought it was going to or you were hoping it would, but when I look at the numbers, I still have concern.

Mr. Carney: On page 20, chart 23 at the bottom, we do a small disaggregation of consumer credit, which is largely credit card, and that rate of growth versus mortgage credit, and then the total increase. You can see that there has been a slowdown in the rate of growth of consumer credit and that the bulk of the growth has been in mortgage credit and, to some extent, through HELOCS. It is important that OSFI, in summer 2012, tightened the underwriting rules for home equity lines of credit.

Senator Moore: Yes.

Mr. Carney: We expected to see a slowdown in the rate of growth of exactly those types of lines of credit as a consequence. We are not seeing a sharp pickup.

Senator Moore: That is in the line of credit conversion.

Mr. Carney: We had a period where there was some displacement. In our view, relative to the size of the economy, we have certainly not seen a consistent increase in the rate of growth of lines of credit. That is coming off.

Senator Moore: Why is that not happening? It would be desirable for any consumer to want to get to a lower interest rate on a financial commodity.

Mr. Carney: Yes.

Senator Moore: Are they not qualifying?

Mr. Carney: It is possible. A line of credit is normally secured against your property. You have to have a property, and not all Canadians have properties. I will state one obvious reason for that.

Senator Greene: It is a pleasure to have you here. We will miss you. I hope you can come back again in five years or so.

Mr. Carney: Sure, I will come back.

Senator Greene: That is good. As we all know, a person is more of an expert on the day he leaves his job than on the day he arrives in his job. It is also normal when a person leaves a job to advise the firm and his replacement about what he learned and what to look out for. It is also normal, or else he would not have been hired by his new employer, that he would have abilities that he learned in the old job that can be transferred to the new job to meet those challenges.

What advice are you thinking about passing on, and maybe you already have, to your successor and the Bank of Canada? What did you learn specifically in your role as Governor of the Bank of Canada that you will be able to use in your new role as a Governor of the Bank of England? In what way do the challenges facing the Governor of the Bank of England differ from those of the Governor of the Bank of Canada?

Mr. Carney: If I may, I will concentrate on lessons learned as opposed to advice. I do not feel comfortable giving advice. I am very confident that my successor will not need my advice, so I will not offer it. There is nothing worse than giving advice.

The core lesson that was reinforced and that I have an even greater appreciation for now than I had when I started is the importance of having clearly articulated policy frameworks. That is not a very snappy thing to say, but it is absolutely essential.

The bank benefited tremendously during the crisis, I believe, from having a clear inflation target. It guided us in terms of how rapidly we adjusted and provided stimulus to the economy, and how we explained what we were doing to Canadians. It gave some comfort that what we were doing was grounded in a clear objective and that we had a plan to achieve that objective. We were putting it into place, it was going to work, and you could track the effectiveness of it working. That had a knock-on effect on confidence.

It helped us to anchor the communication we had when we reached, as we discussed earlier, the zero lower bound. In our view, that provided stimulus not only through the financial markets, although that was important, but also because we reached over the heads of commentators. We spoke directly to Canadians to give them a sense that the cost of money was very low and that if they had confidence and had something to do, whether a renovation or an investment in a business or the purchase of a big ticket item, they could do it because it was a good time to do it. Canadians responded, and that helped along with other things to get us out of the depths of the recession.

We applied that lesson when we thought about unconventional monetary policy. The first thing we thought about was the need for a framework and the principles around it to guide the behaviour. It guided us in the development of a series of measures for the financial sector so that we were providing necessary liquidity to get markets functioning, but we were not providing gifts, if you will, to the financial sector. These were grounded in core principles.

We spent four years, until one year ago, thinking about whether there should be any adjustments to the monetary policy framework in Canada. We reconfirmed our first principle that flexible inflation targeting was the best framework for this country. As well, along with the federal government, we added a richer understanding of the complementary role that monetary policy can play with other efforts to ensure financial stability, such as CMHC and OSFI, to the benefit of the housing sector.

That is the core lesson. I prefer not to comment too much on the U.K. One of the benefits of the institution to which I am going is the tremendous amount of thought that has been given by the U.K. government, parliamentarians and the bank, although ultimately decided by the government and parliamentarians, to the framework for the powers that the Bank of England has. It has a wider range of powers and, therefore, they need to be grounded in clearly articulated frameworks for financial stability, prudential regulation of banks and insurance companies and monetary policy. They also have thought through how those three interact within one institution.

That is absolutely necessary. Perhaps I will leave it there and let you cross-examine if I appear to have dodged the question too much.

Senator Greene: Could you expand on your answer that the Bank of England has a broader range of powers than the Bank of Canada?

Mr. Carney: I alluded to this earlier: Different countries and different jurisdictions have different histories and different ways of organizing. We have a very effective system in Canada, and we have a division of responsibilities that seems appropriate. They have proven themselves over the course of some difficult times. However, the broader powers are held in the Bank of England. The equivalent of OSFI is a subsidiary of the Bank of England called the Prudential Regulation Authority as of April 2013. It is the prudential supervisor for banks and insurance companies in the U.K.

In addition, the Bank of England has responsibility for a wide range of macro-prudential tools, such as varying capital rates over time, varying them by the capital ratios for banks over time and potentially varying them by sector, ensuring adequate system-wide capitalization, which is something they have given a lot of thought to. There may potentially be other tools related to the functioning of some securities markets or other markets like that which are grounded in a separate wing of the institution that concerns itself with financial stability, but ultimately policy decisions are made by the financial policy committee.

What is also unique about the Bank of England is that in terms of powers, it spans from micro- to macro-prudential and includes monetary policy. There are synergies in all of that. There are obviously complexities that come with the more complicated organization, but it is, after very careful deliberation, the solution to ensure proper coordination in the United Kingdom.

Senator Greene: Since the U.K. is a unitary system whereas we are a federal system, does that have any impact at all?

Mr. Carney: Not in this regard, I would say, no.

Senator Greene: Okay, thanks.


Senator Maltais: I will join my colleagues in thanking you sincerely for the excellent work you did. You were the Governor, but you were also an excellent communicator with the Canadian public. It is unusual for a banker to communicate with his clients like this. You did have 33 million clients. To your great credit, you communicated with them often. The name of Governor Carney will remain a household name for a long time all across the country because you were so present. You and your team have done excellent work.

My question is the following. I will take things down a notch because we seem to be putting you on a pedestal since the beginning of this meeting. You know what my concerns are. You will remember the small family I introduced you to and to whom you provided excellent advice at the beginning of the year.

You stated in your presentation that, even though the Canadian economy is likely to recover gradually, we have to remain careful. And I would like to give you the opportunity, perhaps your last one, to address the average Canadian family. Before leaving us for another kingdom, as a well-known person would say, what advice would you give to the average Canadian family for the next two years?

Mr. Carney: That is an important question and, once again, a difficult one. The bottom line is that the Canadian economy remains strong. We have many opportunities and advantages in Canada. Our financial system is resilient. It will continue to provide Canadians with credit for the next two, five and even ten years. We can count on that.

We can also count on the fact that inflation will remain low, stable and predictable. This is important to Canadian families.

There are still some risks in the housing market. They are not too significant but they are there. Now is not the time to stretch your budget for a house.

As for the labour market, perspectives remain solid. For the Canadian economy, according to the Bank of Canada, growth will pick up by the end of 2015. It is therefore a good time to invest if you are confident about your job and your business.


The Chair: Governor, on February 25 of this year, you gave a lecture to the Richard Ivey School of Business at the University of Western Ontario, entitled ``Rebuilding Trust in Global Banking.'' You spoke of the human condition and creating a culture of ethical business. Echoing your comments, the Archbishop of Canterbury, Justin Welby, a former oil company executive, recently said:

. . . businesses cannot contribute to their full potential to a good society and human flourishing if they have no regard for the society in which they operate, and if individuals in business have regard only for themselves.

Governor, we as senators create law, but there may be differences in business between what is legal and what is ethical. What thoughts might you like to share with the committee on the subject of corporate ethics?

Mr. Carney: That is a very important part. To give the context of that lecture, it was a leadership lecture series and it was to Ivey business students, as you noted. It was a very fine group of people and a great tradition at that university and that faculty. A third of Ivey students go into finance — in fact, almost 40 per cent. Obviously there was a confluence of issues, which is why I chose that topic. Many things can rebuild trust in the system that start with capital and end in too-big-to-fail, other aspects of that. That is important, but ultimately I believe there is this element of ethics that needs to be present and has been present, by and large, in the Canadian financial system, which redounds to the benefit.

You hit on the issue in your question and comments. It is recognizing the difference between only doing what is legal versus what is right and having a bigger concept and perspective. It is necessary that this perspective is rooted in connection to the society in which the business operates and the bigger aspects of the economy. That also, by the way, gives a proper perspective for business and redounds to the benefit of the better businesses to have that perspective. This gets down to the level of the individual, but in that speech I referred to Lord Stephen Green, who was the chairman of Hong Kong Shanghai Bank and is now the —

Senator Tkachuk: Great name.

Mr. Carney: Yes, very illustrious, my lord. He is now a minister in the U.K. government and he happens to be an Anglican minister as well. His core reflection in his time as chairman was that people who overly compartmentalize or think there is one code of behaviour in the office versus at home is where you get the breakdown.

Let me bring it back to finance and the issues in front of us. One of the challenges in the big corners of finance is that it has become totally disconnected from the end purpose of that activity, and we have seen this in various behaviours. Ultimately, finance is not an end in itself. It is a means to distribute risk; it is a means to channel funds from savers to investors; and it is ultimately an intermediary to service the real economy. The best of finance does that very effectively, and it is absolutely essential to our capitalist system.

If you think about what happened in LIBOR and the manipulation of LIBOR, unfortunately, it is not our direct responsibility, but I have had to think about that and wade through some of the happenings there. It would appear, not to pass final judgment, that a series of individuals never thought about the connection between what they were doing and the impact on somebody's mortgage, the impact on a derivative that is a totally legitimate hedge, which then had a knock-on effect on the value of a pension fund or an insurance company or contract. They just viewed the activity as entirely a game within the financial sector with a victimless crime; and that is the element of the industry, apart from the criminal element of that activity. That is what the better institutions and all of us need to encourage, that that sort of narrow-minded thinking does not happen and there is an understanding that, ultimately, this reference rate affects people, businesses and the economy, and that the integrity of that process is essential for the efficiency and the effectiveness of the system as a whole.

The Chair: Thank you very much. I will move to round two. We have five questions from senators. These are the quick, snappy questions, and I will start immediately with Senator Tkachuk.

Senator Tkachuk: I do not know whether mine will be quick and snappy, but I will do my best.

The Chair: I will cut you off then.

Senator Tkachuk: I want to talk a little bit about something you alluded to on my second question, which was the crisis in Europe and the problems they are having.

It seems that when they are dealing with the problems they have, there has to be in a country a crisis from which there seems to be no escape. Then it takes them forever to deal with it. I do not know how many months we heard about Greece before anybody ever did anything about it. Then we had the situation in Cyprus where a bunch of people got together and said — talk about ethics — ``What we should do is seize the savings of the people in Cyprus,'' and they did not expect that that would have a horrible effect on one of the major economic engines of Cyprus, which is banking.

Has the European Union sat down and said who is next? Have they looked long term? Do they have a plan in place? Not a cookie cutter plan, but surely there are people who are thinking. All their problems seem to be the same. They have overspent and they are broke. There are only so many solutions to that problem.

I would like you to talk about that. Is there a country that is next on the list?

Mr. Carney: Well, in fairness to our European colleagues, I think they do have a plan, but it is a plan that exists at several levels that will be put into action over the course of years and that is complicated by national and European politics.

The analogy given to me by one European official recently is that Europe is not like a supertanker — famously, it is tough to turn a supertanker on a dime — but it is like a flotilla of 17 tankers. When you go to turn and you have to move nimbly, it is difficult, and it often is only in very acute moments of stress — crisis — if you will, that decisions crystallize.

However, the core elements of re-founding monetary union are becoming clear. It centres around, very importantly, creating a banking unit. There are complicated aspects of that. In the view of the Bank of Canada, it will likely involve some form of fiscal sharing. It is absolutely essential that the fiscal regimes of all members of the European Union are on a clear and sustainable path. As I said earlier, a series of very difficult structural reforms will be necessary to enhance the flexibility of a wide range of those economies. To varying degrees, the specifics behind all those higher- level initiatives have been articulated and are being worked on.

I would say the most immediate issue that is receiving the most attention, which is welcome, is the work behind the banking union, which is very complex, and we hope that under the Irish presidency, which ends at the end of June, we will see further progress in that regard.

Senator Tkachuk: Thank you.

Senator Massicotte: Thank you, chair. My question is very simple; maybe the answer is a little more complicated.

During the last meeting you had with us, governor, you acknowledged that the income gap, or the differential existing in our society, is one of the most significant challenges to any modern society and to any modern wish for security.

What do we do about it? In fact, your wife made some comments. I think she was probably close to it. What do we do? It is very significant. We are obviously better off than the Americans, but it is inequitable and probably not something that is sustainable.

Mr. Carney: So that I do not get into any trouble with my wife, I will ask Mr. Macklem to answer that. He has thought about this, actually.

Mr. Macklem: Let me start briefly with what monetary policy and the central bank can do about it. It gets back a bit to Senator Nancy Ruth's question.

One thing we know is that when you have inflation, it penalizes the poorest people the most because they hold their assets predominantly in cash or very close substitutes to cash. Also, you have people on fixed incomes who see the real value of their savings eroded.

Getting back to this community and trust thing, the 1970s are a long time ago now. We have a couple of generations of Canadians that just do not know the 1970s. That is a good thing. They are not worried about inflation. However, if you go back in time, one of the biggest issues when you talked to people was the sense of unfairness and the sense that somehow they were getting ripped off by the fact that pay adjustments were chunky, they were asynchronous and people always felt like they were losing out.

From a monetary policy perspective, maintaining confidence and maintaining low inflation are key.

The other thing gets back to our shared responsibility around financial stability. If we have learned anything in the last five years, it is that financial crises are enormously costly, and they punish the most vulnerable parts of the society the most. Just look at the unemployment statistics. Whose unemployment has gone up the most? It is youth, and it is people with low levels of education. Those are the two groups that have been punished, and they also tend to be lower- income groups.

Trying to mitigate those cycles and maintain low inflation are the things that central banks can do.

Now, obviously, inequality is a much broader issue with a whole complex of policies. Economists too often talk about a trade-off between efficiency and equality, and there are elements of a trade-off, and I certainly would not want to deny that. We believe in capitalism, and you are incented by the returns you will get. However, there are policies that are good for both, and the obvious one is education. It gets back a bit to advice for Canadians: individuals investing in education, governments supporting education, and firms supporting and working with the education system to make sure that individuals have the training that matches the jobs they need. That is good for growth and for equality of opportunity. It is good on all fronts.

Senator Oliver: My question is about the Single Supervisory Mechanism. The governor, in his response to Senator Tkachuk, alluded to part of the answer that I was looking for. Eight months ago, the European Commission proposed a framework for a SSM for European banks. In that mechanism there were many different things they wanted to do, such as harmonization of regulations and common deposit protection and so on. The main one is a Single Resolution Mechanism for dealing with financially distressed banks. I would love to hear your comments on that to determine what effect there may be for Canada.

Mr. Carney: Quickly, there are two aspects. You referenced the Single Supervisory Mechanism. European leaders have identified the European Central Bank as being that SSM. The question is how that will interact with the national supervisors that will continue to exist where the delegated authorities are. Will the focus be purely on the most systemic institutions in the European Union? Does the ECB also act as the Single Resolution Mechanism? All of these issues are under discussion. They are part of where we hope to see the most important progress on banking union in the coming months. Our European colleagues are much focused on these issues and working on them as we speak.

To put it in a Canadian context, why does this matter? First, it matters at one level in terms of providing stability and a prospect of growth to Europe. They will not grow effectively without re-founding a banking union within Europe. Second, it matters very much in terms of what happens if anything bad were to happen to one of the European banking institutions, in particular a global institution. There is a fundamental issue of coordination in either recovery of that institution or the winding up of that institution. For these cross-border European banks, Canada, the U.S. and the U.K. would want one place to call and one entity with which to coordinate on a cross-border basis to ensure that the creditors to be bailed inconsistently across border and the counterparties whose contracts will be honoured are consistently done so cross-border, et cetera. It is as important for us as it is for them that they make this progress.

Senator Oliver: Is the Bank of Canada engaged in some kind of dialogue on that?

Mr. Carney: We are engaged in discussions through our role on the Financial Stability Board, but not directly as institution to institution. We in Canada are not the resolution authority. The resolution powers in Canada under existing legislation are housed in CDIC and OSFI under different acts and different powers.

Senator Moore: On page 7, chart 9, you show the ratio of household debt to disposable income in the United States. I could not find a similar graph specifically on that point, although I found one on the Statistics Canada website. I would like to give each of you a copy so we can have a chat about it.

Mr. Carney: Ours goes up.

Senator Moore: Senator Tkachuk might have alluded to this issue earlier. The ratio in Canada is that debt is 165 per cent of disposable income. I will express the same concern as before. We have had this low interest rate policy and have tracked it. Since 2001, people have been piling on debt. In 2008, the U.S. started to get their house in order but ours is still going up. You cannot go much lower in your interest rate. It only seems reasonable that they will have to go up. It looks like a bomb ready to blow. Between that and the mortgage debt, I am concerned. How do we address those issues?

Mr. Carney: Allow me to make a couple of points. On the absolute statistics, the U.S. ratio has gone down. The sharp, initial adjustment in the U.S. ratio going down was the old-fashioned way, by default. A number of households defaulted on their debts so they were written off. More recently, we have seen income start to grow, and there has not been the same pace of debt accumulation. I will not get into the statistical adjustment, but we can if you want.

Second, we have been concerned over the course of the last several years about the rate of accumulation of Canadian household debt. These debt figures include all the mortgage debt, which is driving this increase. We have been concerned about this. We have been encouraged by the steps that the government has taken and OSFI has taken. We have leaned a bit with monetary policy in support of that. We have been concerned that an adjustment of monetary policy in the other direction would not be consistent with what we are seeing in this chart. Effectively we are seeing the stabilization of the Canadian ratio, albeit at a very high rate.

Senator Moore: Do you think we have peaked?

Mr. Carney: Effectually we have peaked. This quarter or next quarter we think it will be around 165 per cent measured on income. We will see the debt-to-income ratio of households in Canada stabilize.

Senator Moore: Are you concerned about changing the graph the old-fashioned way in Canada?

Mr. Carney: The dynamics in the Canadian housing market are more constructive than the dynamics in the U.S. housing market were at that time. That is not a very high bar. Our view is that all those adjustments — household balances and the debt position of Canadian households, the adjustment in the Canadian housing market, the level of starts down to slightly below demographic demand, the level of resales below their 10-year average, some modest price adjustments in some of the more firmly valued markets — make a constructive path for both the debt side and the housing side in Canada. We are encouraged by that. It is one of the factors that have influenced the stance of monetary policy.

Senator Moore: I truly hope that you are right.

Senator Black: The good news is that my question is related to the connection between post-secondary education and economic growth; and Mr. Macklem has answered it.

Mr. Carney: May I make one point on this? One of the challenges we continue to have, where we can always get better, is that the premium for Canadian post-secondary graduates is lower than it is in the OECD. An element of that relates to the mismatch between what Canadians are studying, where the jobs are and ensuring that the transfers of skills are there. There is always more work to be done, and we can continue to improve on that.

Senator Black: It is important work.

Mr. Carney: It is absolutely important.

On the inequality question and the overall context, two of the big drivers of rising inequality that we all recognize are globalization and technology. The returns to an ability to work with technology are much higher than they were previously, in part because of globalization, which goes directly back to education, lifelong learning and training to ensure that Canadians continue to upgrade their skills so you do not get a bigger gap between those who can work with technology and those whose skills, unfortunately, have lagged behind.

These forces are so strong that it takes a concerted effort, as Mr. Macklem said earlier, not only in universities and community colleges but also in business and institutions such as ours consistently over time in order to keep those skills building.

The Chair: Governor Carney and Deputy Governor Macklem, that concludes our questions. We thank you for being here.

As I noted in my opening remarks, today was bittersweet. Governor, you have handled Canada's central bank with both purpose and grace, helping to guide the Canadian economy through what can only be described as difficult times. In addition, you always acquitted yourself very well before this committee.

It is for that reason I noted with great interest after your first appearance before the British House of Commons Treasury Committee that the chair remarked: ``You have certainly demonstrated you know how to handle committees like this . . .'' As Chair of the Standing Senate Committee on Banking, Trade and Commerce, I would like to think that perhaps your regular appearances before our committee provided in some small way some measure of assistance in that regard.

I know that I speak for all members when I say thank you for your service to the bank; thank you for your service to Canadians; and our best wishes on the road ahead.

Mr. Carney: Thank you very much.

(The committee adjourned.)