Friday, July 24, 2009

Carney has a warning for you...

The Governor of the Bank of Canada said this week that he figures the Canadian economy bottomed some time between April and June and is now on its way up again.

This comes one month after he told a gathering in Montreal that, "the markets might be premature in their enthusiasm about improving economic conditions, and are underestimating how long it will take for the global economy to heal."

Just a few weeks ago, this slump was being compared to the Depression of the '30s. Now, everything's fine – or, at least, that's how the Bank of Canada's latest pronouncement is being interpreted.

Assuming that the bank is right (and its predictions are far more optimistic than most, including those of the International Monetary Fund), the picture it paints is not a quick return to the good old days. When you read Carney's monetary policy report, his introduction states any recovery will be "more muted than normal."


That's central bank talk for continued high unemployment and more downward pressure on wages. Not exactly a slump; not exactly a boom. More like a sloom.

At the best of times, an economic turnaround doesn't translate quickly into jobs and wages. Even when the economy has technically started to grow again, employers – anxious to get their profits back up – continue to lay off workers and squeeze payrolls.

Economists call this a lag and it can take time. After the recession of the 1980s, it took seven years for Canada's unemployment rate to return to pre-slump levels.

A "more muted" recovery will take longer.

The Bank of Canada doesn't attempt to predict how long.

Second, there are the what-ifs. What if the rickety nature of, say, Eastern European finances triggers another banking crisis? What if investors become so spooked by the size of the U.S. federal deficit that they start a run on the American dollar? What if the Canadian dollar rises so high vis-à-vis its American counterpart that it makes our exports impossibly expensive?

To its credit, the Bank of Canada mentions all of these, although it tends to do so in the numbingly incomprehensible language favoured by bureaucrats ("escalating concerns about current account and budgetary imbalances").

So what gives?

Is Carney trying to play the public, albeit for honourable reasons?

Given that economies are motivated by psychology (what John Maynard Keynes called "animal spirits"), it appears the central bank is trying to walk a fine line with its public pronouncements.

Does it want to boost public morale so that consumers will spend their money instead of hoarding it (consumer spending eventually translates into jobs)?

Or is Carney trying to lay the groundwork for something he knows is coming and needs an to prepare the public for a freight train he cannot stop?

Quitely buried in many of these newsreports was this little gem here.

"Ultra-low interest rates will not last forever and Canadians should be preparing for the day when their borrowing costs eventually return to more normal levels," says Bank of Canada Governor Mark Carney.

Focus on two key words here: "preparing" and "normal".

Normal, by the way, is 8%.

That's a jump from 0.25% to 8%.

Given the grief that will cascade down upon the Bank of Canada for the pain this sort of jump will wreak on Canadians, Carney can now say "we told you the recession was over" and it becomes the justification for the unstopable rate hikes.

It's Carney's 'out'.

Regardless of the motivation one thing is clear... you've now been warned.

As Carney said, "Canadians should prepare".


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