Document Preview
  • Full Text
  • Scholarly Journal

Sticking to its knitting: Why the Bank of Canada should focus on inflation control, not financial stability

 Iss. 196,  (Feb 2004): 1-18.

Full text preview

In this issue...

Canadians are beginning to take the Bank of Canada's success in controlling inflation for granted. Now, some commentators suggest giving the bank the extra responsibility of maintaining financial-market stability. Author David Laidler argues that the authorities already have adequate tools to deal with such problems and that to extend monetary policy's mandate to this field would be a small but dangerous step toward the kind of monetary fine-tuning that caused big trouble in earlier years.

The Study in Brief

It has become painfully evident that low inflation is not, in and of itself, sufficient to guarantee overall stability to the financial system. The bursting of the high-tech stock market bubble of the late 1990s in North America is sufficient evidence of this, but there were echoes here of the collapse of Japan's bubble economy at the beginning of the decade, and even of the stock market crash of 1929 that marked the onset of the Great Depression of the 1930s. All of these episodes occurred at time when inflation was low and stable. At the same time, the Bank of Canada's success in controlling inflation has been matched in many countries, to the point that monetary policy appears almost routine.

This combination of circumstances has led to a new interest in financial stability among central bankers, and a debate is beginning about what they might do to enhance it. No serious commentator is suggesting that inflation targeting should be abandoned for more ambitious goals, but there are those who suggest that existing regimes ought to be modified at least to the point of taking more notice of asset price behaviour, and others who argue that, sometimes it might be appropriate to trade off a little short term inflation stability in order to pre-empt financial market problems before they...