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The Bank of Canada's Approach to Central Banking*

Published online by Cambridge University Press:  07 November 2014

E. P. Neufeld
E. P. Neufeld*
Affiliation:
University of Toronto
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Extract

There is little doubt that the Bank of Canada and Canadian monetary policy have been subjected to more public criticism since 1954 than at any other time since the Bank began operations in 1935. The force and the persistence of the criticism may in part be explained by a coincidence of events which included a move toward severe monetary restraint, a change of governor at the Bank of Canada, two national elections, and a change in government. Public criticism has for the most part concerned itself with the degree of monetary restraint or monetary ease in the economy generally and in specific sectors, with the timing of changes in policy and with the appropriateness of policy in the light of economic conditions. This paper will let those matters rest. Rather it will try to determine whether in a more fundamental sense the Bank's operations are in some respects open to criticism.

There would appear to be four important aspects to the Bank of Canada's approach to central banking: the Bank's interpretation of its role in the allocation of capital; its conception of the mechanism by which monetary policy becomes effective and of the bounds within which monetary management must operate; its method of making quantitative monetary controls more effective; and its emphasis on the use of moral suasion. The third section will include an examination of the new Bank Rate.

Type
Research Article
Information
Canadian Journal of Economics and Political Science/Revue canadienne de economiques et science politique , Volume 24 , Issue 3 , August 1958 , pp. 332 - 344
Copyright
Copyright © Canadian Political Science Association 1958

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Footnotes

*

This paper has benefited from my colleagues' comments, particularly those of Professor Wm. C. Hood.

References

1 The Governor expressed similar views in an address to the annual meeting of the Dominion Mortgage and Investment Association, Montreal, May 5, 1955.

2 For an outline of these arrangements see Bank of Canada, Annual Report of the Governor to the Minister of Finance and Statement of Accounts for the Year 1956, 9, 34, 35. The report does not state specifically that the restrictions imposed on bank loans to finance companies were introduced at the suggestion of the Bank of Canada.

3 It is this sort of argument which supports the view that a central bank should concern itself with stock market credit, and which presumably has prompted the Bank of Canada to take action in that direction at various times, including mid-1956.

The Bank's concern with finance company credit in general might also spring from its conclusions regarding the effect of financial intermediaries other than banks on the control exercised by a central bank, along lines argued in the well-known articles of Gurley and Shaw. (Cf. Gurley, J. G. and Shaw, E. S., “Financial Aspects of Economic Development,” American Economic Review, XLV, 09, 1955 Google Scholar, and “Financial Intermediaries and the Savings-Investment Process,” Journal of Finance, XI, 05, 1956.Google Scholar) I would recommend caution in moving from tentative conclusions to new controls, and in any case would prefer that new controls on financial intermediaries other than banks should originate with Parliament.

4 The letter was fully reported and freely quoted in the Globe and Mail, Toronto, 03 12, 1957.Google Scholar See also the report in the same issue of a press conference held by the Governor; and Bank of Canada, Annual Report, 1956, 27–31 Google Scholar; Annual Report, 1957, 28 Google Scholar; and Press Release, March 14, 1957.

5 The Bank seems mistaken when it suggests in its 1956 Annual Report that in the long run “… the volume of short-term loans might not be any different from what it has been. …” The amount of bank deposits people wish to hold at a given level of income would not be increased if the proposal were carried out, with the result that increased security holdings by banks would entail reduced loans; and this would hold in the long run as well as over minor cycles because of the relative importance of bank loans on the one hand and savings deposits on the other. It is interesting to note that the savings proposal could aggravate the “problem” of bank loans to small businesses which has worried the Bank of Canada and for which it has also suggested a solution. See its Annual Report, 1957, 20–1Google Scholar and below.

6 See Canada, House of Commons Debates, 03 28, 1957, pp. 2778–9.Google Scholar

7 See Bank of Canada, Annual Report, 1955, 16.Google Scholar

8 This is not to suggest that the Bank of Canada could not influence capital allocation through an acceptance market; by buying certain acceptances freely and selling others it clearly could do so.

9 The Bank of Canada in its concern with changes in the rate of interest and with the selling of bonds by banks, and in its interpretation of the role of Bank Rate (discussed below) leaves the impression, unintentionally perhaps, that it places little importance on interest rates as such and great importance on bank loans. It is difficult to see how monetary policy can be effective in the capital market as a whole except through interest rates, especially if the effect on institutional lenders of capital losses and gains on their existing holdings of bonds is included.

10 A very broad definition of this effect is intended here. It includes the effect on consumption of increased liquidity in assets held by consumers and of capital appreciation on fixed interest debt held by them. It is not pretended that this effect is important.

11 Since February 27, 1957, the chartered banks have been required to value their holdings of Government of Canada and provincial securities at “amortized value” instead of “not exceeding market value” and therefore have not been permitted to hold tax-free inner reserves against those securities. Since selling those securities now has a more direct influence on published profits, an added deterrent to selling may exist. But since those losses can also be charged against tax-paid inner reserves the final effect of the change may well be small.

12 See Bank of Canada, Annual Report, 1956, 27–31.Google Scholar

13 It is true that the relatively large size of government refunding issues poses a special technical problem, requiring some temporary monetary ease if the issue is to be financed by the market while it is being placed. This problem might perhaps be reduced if the jobbing role of the Bank of Canada and government accounts were increased so that if necessary three months or more would be available for the issue to be placed in permanent hands.

14 For the Bank of Canada's discussion of the “floating” Bank Rate, see its Press Release, Nov. 1, 1956, and its Annual Report, 1956, 45–6.

15 Annual Report, 1956, 46.Google Scholar