Poloz: A stable future requires a rethink of central banking

Central banking needs to be rejuvenated – and reinvented – if the country is to chart a stable financial future, Stephen Poloz, Governor of the Bank of Canada, told a packed BMO Auditorium at Ivey Business School Tuesday afternoon. Poloz was delivering the inaugural address of Western’s President’s Lecture Series.

“Thanks to some deft policy-making, the global economy avoided – barely – a second Great Depression. That said, the Great Recession has been very painful. Indeed, more than six years after the crisis, emergency monetary policies remain in place in many economies,” said Poloz, MA’79, PhD’82 (Economics).

“In short, we are still a long way from home and the headwinds are strong.”

Those lessons from the Great Recession, he noted, must be considered when reinventing central banking.

He echoed a lecture from his time at Western as a source of those lessons.

“Many of us came to Western at that time to learn from the high-profile duo of (Western Economics professors) David Laidler and Michael Parkin,” he said. “I can remember David Laidler telling me, ‘Steve, monetary targets will help keep us out of trouble. But if we do get into trouble, they might not get us out.’ And then there was Michael Parkin, who later was my thesis adviser, who said, ‘Steve, there are lots of monetary policy rules that deliver the same inflation outcome, but each will have very different consequences for the economy.’

“Well, those words ring very true 35 years later, particularly given our experience over the past decade.”

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Poloz said monetary targets will help keep banks out of trouble, but they won’t suffice once trouble arises. Low inflation, while a needed target in recovering economies, must remain a goal. But risks of low inflation and long- and short-term consequences of inflation rates and current policies need to stay in mind, he explained.

“We are not out of the woods yet,” Poloz said, but we must focus on what central banking should look like once we arrive at a stable place.

In an attempt to reinvent central banking, policymakers should learn from history – if they don’t wish to repeat it. Lessons from the Great Recession include not only the risks associated with low inflation, but also those that come with imbalances.

“Policymakers cannot safeguard domestic financial stability simply by focusing on the safety of their domestic banking system,” Poloz said. “(Before the recession), they didn’t comprehend how interconnected the global financial system had become and how easily shocks can be amplified and transmitted.”

Today, banks use more – and better – data to assist financial system monitoring for better-informed risk assessment and decision-making when considering financial stability risks.

“Since the onset of the crisis, central banks, including the Bank of Canada, have been reworking the way they balance risks to financial stability and inflation with their policies,” Poloz said. “The bank has been setting policy with a view to balancing the risks facing both the outlook for returning inflation sustainability to its target, and the risks to financial stability such as those posed by the indebtedness of Canadian households. The sudden drop in global oil prices has increased both risks.”

The drop in oil prices is an important setback in Canada’s progress as it means lower income for Canadians. The bank’s decision to lower interest rates last month was a means of taking out insurance against both risks, Poloz explained. There is evidence the country can return to stable financial footing – and stable inflation – by the end of next year.

We are, by all means, in an uncertain time, he said. Progress means keeping lessons of the past in mind.

“An evolution of central banking is already underway, supported by recent experience and new research,” Poloz noted.

The ultimate reinvention of central banking will integrate both inflation and financial stability risks while better capturing the uncertainties policy-makers face, he explained. Though the banks still focus on inflation targets, it’s important to always reflect on lessons from the past when considering policies and practices of an ideally stable financial future.

The President’s Lecture Series showcases personalities of national and international prominence from the realms of academia, politics, civil service, business and the arts as a means to engaging the campus and broader community in meaningful public discourse on a wide range of important topics.

Established and hosted by the president and vice-chancellor, this public lecture series aims to provoke thoughtful discussion and debate on the most compelling ideas and issues of the day while raising the profile of the university and the exceptional alumni and friends who comprise our campus community.