Why is Canada even discussing negative interest-rates?

Yesterday there was quite a development in Toronto where Stephen Poloz the Governor of the Bank of Canada was speaking. Let me quote his words.

The fourth unconventional monetary policy tool I want to cover is negative interest rates, which is something you have heard a lot more about recently.

Not only recently Stephen as I have been discussing them on here since 2010! However the Bank of Canada does have a track record in this area so please join me in a trip in the TARDIS of Dr. Who back to April 2009 and the emphasis is mine.

On 21 April, the Bank lowered its target for the overnight rate by one-quarter of a percentage point to 1/4 per cent, which the Bank judges to be the effective lower bound for that rate.

We have been noting over the last 18 months or so that the “lower bound” has been slip sliding away especially as we note that every country which has implemented negative interest-rates has then cut them further. However there was a reason that the Bank of Canada thought that they were a bad idea in 2009.

In principle, the Bank could lower the policy rate to zero. However, that would eliminate the incentive for lenders and borrowers to transact in markets, especially in the repo market.

So if we translate that into ordinary persons English we see that like the Bank of England they were concerned about what zero interest-rates would do to the banking sector. It is always the banks for them isn’t it? Oh and the man signing off that report was called Mark Carney, whatever happened to him?

What about now?

A paper by two Bank of Canada economists ( Jonathan Witmer and Jing Yang) takes up the story.

Our best estimate for the effective lower bound is a target rate of around -50 basis points (bps).

So what has happened in the intervening six years or so which has changed their mind?

Since investors must pay to store large amounts of cash, the effective yield on cash is actually negative…..Cash storage costs, including direct costs of storage and insurance costs, are approximately equivalent to 25 to 50 bps per year.

I do like “must pay” as of course there is a choice which they miss. In reality there is a variety of choices where an ordinary person stuffing cash into either a literal or metaphorical mattress may consider the cost to be zero, or a drug dealer who will have very heavy costs laundering his cash.

But the fundamental issue here is that none of this has changed in the past six years so why has the Bank of Canada?

The absence of abnormal cash demand in Switzerland, for example, with the target rate at -75 bps, supports this possibility.

Ah okay so they now think that they can get away with it without unduly harming the banking sector! Also I note that something we have discussed on here many times has been noted.

In addition, many banks have not passed on the rate cut to mortgages.  This may be due in part to the banks’ desire to protect their interest rate margin.

So the central banks worried that negative interest-rates would hurt banks but now they discover they pass on the problem in the form of a rugby hospital pass and hurt the consumer their worries disappear. Ouch! Talk about revealing their motivation.

This reminds me of the biggest Sham 69 hit where you need to replace kids with banks.

If the kids are united then we’ll never be divided
If the kids are united then we’ll never be divided

If this was another industry failing to respond to downward price pressures by in effect forming a cartel would lead to investigation and prosecution but apparently different rules apply to banks.

We do get a burst of genuine honesty towards the end of the paper.

We do not know where exactly the ELB for the Bank of Canada policy rate is, nor do we know how long policy rates could stay negative.

But also in case we missed it a reminder of the “by the banks for the banks theme” and the emphasis is mine.

In such an environment, they should monitor the effect of negative rates on core funding markets, banks and other market participants.

Oh and you might have thought that the real economy might have got a mention at least somewhere…..

Forward Guidance

There are various issues here but Governor Poloz is either unaware of deliberately ignores the problem of proclaiming Forward Guidance and also telling people this.

This suggests that we have more room to manoeuvre in response to adverse shocks than we believed back in 2009.

So they were wrong about a basic point when giving Forward Guidance back then. Also in a world where confidence is fragile there is the issue of whether making such statements is damaging in itself. The human psyche can be mysterious and unpredictable and the same critique was applied to the former Bank of England Governor Baron King of Lothbury who was invariably downbeat.

Will people worry about the downbeat implications and be afraid be very afraid or concentrate on this.

In the Bank’s last Monetary Policy Report (MPR) in October, we forecast that the Canadian economy would return to positive growth in the second half of this year, and that annual growth would continue to increase in 2016 and 2017…..Canada’s outlook is encouraging.

So the future is so bright we are considering negative interest-rates in response to it? Even Governor Poloz can spot the flaw.

Given this outlook, it may seem like an odd time to be updating our unconventional monetary policy tool kit.

Mark Carney and the lower bound

The lower bound has been a very troubled area for the Bank of England Governor. Yesterday saw his Forward Guidance of 0.25% become -0.5% in Canada. Even worse for him he actually raised his estimate of the lower bound in the UK to 0.5%! Up was the new down for him and his behaviour was even odder because he did this as places in Europe were heading into negative interest-rate territory. He is lost in his own land of confusion on this subject.


The issue of the spread and indeed contagion of negative interest-rates is one that makes appearances in what might seem unexpected places. If pressed about this week I would have guessed Sweden,Denmark or Switzerland would be making the headlines. Also Canada had for a long time a relatively good credit crunch as the commodity price boom meant the problems seen elsewhere were underwritten. Along the way we saw “Peak Carney” as the UK establishment were seduced by such events and he saw a chance for personal improvement.

However now for all the rhetoric there are plainly issues as we note an oil price where the Brent Crude has tested US $40 more than once already this week. In addition the Bloomberg Commodity Index hit a low for this century. This led Governor Poloz to mull on these possibilities.

commodity prices could fall further as new supply weighs on prices…….even as the resource sector contends with lower prices.

We do not know what will happen next but we do know that it recent days the resource sector has seen even lower prices. A Black Swan for the previously serene Canada?

As we stand the situation remains relatively serene as the last GDP report showed annual growth of 2.3% albeit with a 0.5% fall in September. However  employment has dipped in the last 2 months as we wonder if Canada can continue to escape the pain that others have suffered in the credit crunch era? The currency has certainly got the message. From the Financial Times.

Loonie touches 11-year low





14 thoughts on “Why is Canada even discussing negative interest-rates?

  1. All this financial chicanery begs an obvious question:
    Since it is the case that all economic policy by Govts. is geared towards banks, and since all actions by central banks is geared towards banks, and that, if anything, the financial sector’s activity has held the other sectors back, rather than serving them, isn’t it the case that, with the real economy doing reasonably well, WE’D DO FAR BETTER WITHOUT THE PARASITIC BASTARDS?

    See Brown and Darling have their rewards for selling their countries down the river.

  2. Hello Shaun ,

    As we enter the next deflationary period the Banks are still bust , negative interest-rates will help in that they can continue to rebuild their balance sheets at everyone else’s expense – something that would be unthinkable for any other sector.

    MIRP policies are part of also the on going currency wars and with so much “hot ” money looking for safety one does wonder what the MSM and GOP are NOT telling us ……

    It was touched on yesterday that GDP and CPI are Gerry Mandered as to now being almost meaning less indicators .

    Certainly I can see that there will be major drop in prices , followed by some stunning increases in the stock markets as the “hot” money looks for greater returns ( like 147$ oil was – it will not go as far next year but think of what $70-80 will do ! )

    China isn’t in recession but its slow down will cause interesting ( is causing) effects ….

    Can India take up the slack ?

    Will Camelson move onto a big job in a Bank ? ( well thats certain ! )


    • Hi Forbin

      All the money that has been poured into banks around the world and yet 7 years later they are still retrenching everywhere you look. From Bloomberg.

      “Rabobank Group will cut 9,000 jobs over the next three years, the Dutch lender said, as it announced an overhaul of its workforce and balance sheet and completed a reorganization of its century-old cooperative structure.”

      In the UK I note that Barclays Bank has continued its recent tradition of announcing layoffs just before Christmas in a type of cross between Scrooge and the Grinch. Meanwhile those in charge of the banks act like General Melchett in Blackadder sending the troops over the top but staying safely in the rear themselves.

      Instead of reforming the banks at the beginning we have put them into at least one lost decade proving we learnt so little from what happened to Japan.

  3. ‘If this was another industry failing to respond to downward price pressures by in effect forming a cartel would lead to investigation and prosecution but apparently different rules apply to banks.’

    Too true Shaun.

    Negative rates don’t work and nor will they.The CB’s across the world now appear like madmen trying to put out a fire with petrol.

    It’s the asset bubbles that are the problem,not just for bank balance sheets(which are propped up by taxpayers to errrr…save taxpayers) but also for the real economy.

    Collapsing confidence-as shown by consistently declining money velocity-is at the core of it all.

    As Forbin has said,
    ‘It was touched on yesterday that GDP and CPI are Gerry Mandered as to now being almost meaning less indicators .’ The CB’s and govts are papering over the cracks.

  4. A great blog as usual, Shaun. Thank you for doing a blog on Canadian monetary policy.
    Everywhere in Canada, Governor Poloz’s announcement in Toronto that the BoC might consider going to a negative overnight rate was treated as the big story, but he also spoke a bit about “funding for credit” as part of the BoC’s tool kit if there were another downturn. From his statement that “[t]he Bank of England and the U.K. Treasury set up such a program in 2012” it is obvious he has the UK’s FLS in mind. The ‟Framework for Conducting Monetary Policy At Low Interest Rates”, published the same day, does not reference the FLS either directly or indirectly, but has only good things to say about funding for credit: “A key advantage of this type of facility is that it would enable the Bank to target the measure to those specific sector(s) of the economy where credit supply is judged to be impaired.” Unfortunately, the senior people at the BoC don’t seem to read your blog every day, or they might not take such a sunny view of it. It is Canada’s loss.
    Since something like FLS is in a grey area of monetary policy, and could be construed as fiscal policy, one wonders if Governor Poloz checked with the new Finance Minister, Bill Morneau, before he gave his speech or released the BoC’s policy paper. As far as I know, Mr. Morneau has never expressed an opinion, one way or another, on the efficacy of the BoE’s Funding for Lending Scheme.

    • Hi Andrew and thank you

      As you say there were other mentions in the new Bank of Canada Report but even a UK style FLS had a forerunner of credit easing in the April 2009.Whereas negative interest-rates as a policy option is brand new I think.

      “A key advantage of this type of facility is that it would enable the Bank to target the measure to those specific sector(s) of the economy where credit supply is judged to be impaired.”

      I had a wry smile at your quote as nearly 3 /12 years done the road the targeted area (SME lending) has hopefully stopped falling whilst mortgage lending boomed. As Canada has its own house price issues perhaps they are hoping to do a bit of UK style can kicking of the bubble to somebody else’s watch.

      In the UK the FLS did require the permission of and underwriting by HM Treasury but I guess politicians are always likely to say yes to this sort of thing..

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