BoC would consider sub-zero interest rate in financial crisis

BoC: Below-zero interest rate an option in economic crisis

By Special to MoneySense on December 8, 2015
Estimated reading time: 2 minutes

There is no sign the bank will actually use the measure

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OTTAWA – The Bank of Canada is saying for the first time that it would consider pushing its trend-setting interest rate below zero if the country ever suffered another major economic shock such as the financial crisis. In prepared remarks of a speech Tuesday, governor Stephen Poloz said the option of a negative key interest rate was now among several potential unconventional monetary policy tools the bank could apply in an unlikely crisis scenario. The central bank, he said, has moved its “effective lower bound” — or its floor — for the benchmark rate into sub-zero territory for the first time, dropping it to negative 0.5 per cent from the positive 0.25-per-cent mark it set in 2009. The bank’s rate is now 0.5 per cent. There could be limitations on the impact of such a move, Poloz said. “While we now believe that interest rates can be pushed below zero, there still is a lower bound,” Poloz said in the speech at the Empire Club of Canada in Toronto. How changing interest rates affect fixed-income » “So we can’t be cavalier about how much more room to manoeuvre we have. Further, there is evidence that consumers and businesses respond less to interest-rate declines when interest rates are already very low.” Poloz, however, stressed that the fact he listed new unconventional monetary measures should in no way be taken as a sign the bank is about to use any of them. He reiterated his optimism for the Canadian economy and reaffirmed his projection it was strengthening despite the pain of persistently low resource prices. The non-resource sectors, Poloz added, have continued to strengthen. “Given this outlook, it may seem like an odd time to be updating our unconventional monetary policy tool kit,” he said. How the Bank of Canada influences mortgage rates » “I certainly hope we won’t ever have to use these tools. However, in an uncertain world, a central bank has to be prepared for all eventualities.” Poloz said after examining the experiences of other countries since the financial crisis, the bank added new potential remedies to a cabinet already stocked with options like forward guidance and large-scale asset purchases, also known as quantitative easing. The bank used a form of forward guidance in 2009 when it committed to keep the key rate unchanged for a year as long as there was no change in the inflation outlook. On Tuesday, Poloz announced another new unconventional measure added to the bank’s arsenal: funding for credit. The option would ensure economically important sectors had continued access to funding even when the credit supply was impaired, Poloz said. Poloz also said fiscal stimulus tends to be a more powerful tool than monetary policy in extreme crises.