Managing Our Economic Levers: The Bank of Canada Weighs Its Options
This week Bank of Canada governor David Dodge will announce interest rates will rise, stay the same or be cut. The dismal scientists who are economists have been predicting that he’ll raise interest rates to cool an economy led by robust Alberta
That was until the credit crunch came into US markets over the last few weeks. With the “no money down” mortgage market in free fall world markets have been jittery. Cash has simply been in short supply. This led the US Federal Reserve to cut interest rates to raise liquidity levels. Last week US President George W. Bush chimed in with federal help for mortgage holders in danger of default.
It has created a real problem for Bank of Canada governor David Dodge. Canada’s economic numbers are solid. This is the way David Parkinson described it in last Tuesday’s Globe and Mail.
“Last Friday’s gross domestic product report showed the Canadian economy expanded at an annualized pace of 3.4 per cent in the second quarter, more than half a percentage point above the Bank of Canada’s estimate of 2.8 per cent contained in its latest Monetary Policy Report Update in July. That means the economy was operating at more than a full percentage point above the central bank’s estimate of the economy’s production capacity – a significant gap that would normally imply building inflationary pressures and justify interest rate increases.”
So it is what it is. With numbers like this most are expecting the Bank of Canada to raise interest rates this week. However, there are liquidity concerns here in Canada too. It surely is not as much as a concern as in the United States but with our markets interconnected Dodge will surely be leery about throwing “gas on the fire”.
Nonetheless, the tales of our two economies couldn’t be much different now. Our American friends are looking toward a further cut in interest rates by the Federal Reserve. We are into a possible inflationary spiral because of the overheated economy in western Canada. The paradox is in Eastern Canada where there are not the same inflationary pressures. In fact in southwestern Ontario the City of Windsor has the highest unemployment rate (8.8%) in Canada. So what should David Dodge do?
Everything I’ve ever learned about economics says raise interest rates. We’ll see. Raising rates will curb inflation, boost the loonie and slow down employment growth. It all has to be kept in balance. Once an economy gets “out of balance” things go awry. Unemployment rises, sometimes along with inflation, social costs increase, and crime increases, and it just gets cluttered. So our American friends have a bit of a mess on their hands.
However, it’s not all-bad economic news south of the border. They are still hoping to avoid recession, which at the end of the day will be very good for Canada. Part of that equation has to do with their economic productivity. The following is a report from American Press, which appeared in CNN Money.
“The average U.S. worker produces $63,885 of wealth per year, more than their counterparts in all other countries, the International Labor Organization said in its report. Ireland comes in second at $55,986, followed by Luxembourg at $55,641, Belgium at $55,235 and France at $54,609.
The U.S., according to the report, also beats all 27 nations in the European Union, Japan and Switzerland in the amount of wealth created per hour of work – a second key measure of productivity. (CNN Money September 2, 2007)
I saw this first hand on a recent trip to the Champaign Illinois. I had been invited to take part in a trip to the AgReliant research farm near Champaign. For those of you not involved in agriculture, Champaign Illinois is “ground zero” for corn production in the world. There is hardly a better combination of soil and climate in this world to produce corn.
The researcher charged with guiding our group through the corn plots explained local farmers aren’t going to have a good year this year. He said they could only expect a yield of 190 bushels per acre. In comparison this year in Ontario corn producers are expected to harvest 125 bushels per acre. The same acre in Champaign is simply more productive than the same acre in Ontario. Ditto for many other economic sectors across the United States versus Canada.
So managing the levers within our economy is difficult, especially at a time when something like “no money down” mortgages have “muddied the water”. With Canada exporting 80% of what we produce into the United States, we need to continue to look south. At the end of the day, they hold the true key of what may lie ahead for the Canadian economy.