A thought-experiment. A rather real thought-experiment.
Assume you are Governor of the Bank of Canada. Your job is set monetary policy to bring inflation to the 2% target in the "medium term". You are just about to conclude a meeting where you will decide what target for the overnight rate you will set at the next Fixed Announcement Date. You have tentatively agreed on R% as the new target.
Then someone bursts into the meeting room and shows you Stephen's graph. The US GDP data for the last 2 years have been revised down. The US economy has been much weaker than you thought it was. How do you respond to the news? Do you raise R, lower R, or leave R the same?
(Note: I am not asking whether you think the Bank of Canada should have a higher or lower overnight rate target compared to what it actually is today. I am asking whether you think it should be higher or lower compared to what you thought it should be just before you saw Stephen's graph.)
I think most people's immediate reaction would be to lower R. They would reason that the US economy is weaker than we thought it was, and a weak US economy, other things equal, means weaker demand for Canadian exports to the US, and this weaker demand for Canadian-produced goods means you need to loosen Canadian monetary policy to offset that weaker US demand. So Stephen's news calls for a lower R.
But that reasoning is wrong.
You have not learned that there will be a weaker US economy than you thought it would be in future compared to the present. What you have learned is that the US economy was weaker than you thought it was in the past 2 years. And you already have Canadian data over the last 2 years.
Put it another way. Yes, you have learned that the US economy has been weaker than you thought it was. That's bad news, for Canadian demand. But you have also learned that the Canadian economy has offset that US weakness better than you thought it did. That's good news, for Canadian demand. The bad news about the past, and the good news about the past, cancel out. Canadian GDP, unemployment, and inflation, have been what they have been. You haven't learned anything new about them.
And it's not the past, but the future that matters.
This is how you should approach the question.
You already had Canadian data on: GDP for May, unemployment for June, and inflation for June. And you had made tentative forecasts (or "backcasts") for June (in the case of GDP), July, August, and so on into the future, where those forecasts were conditional on your monetary policy. Then you adjusted your proposed future monetary policy until your conditional forecasts came out to where you wanted them to be, given the circumstances. In particular, you wanted a forecast for inflation at 2%, about 18 months to 2 years ahead, conditional on your proposed future path of monetary policy.
Now you get the news in Stephen's graph.
How would the news about US data revisions affect your forecast for Canadian inflation conditional on your tentatively proposed future path for monetary policy? If that news lowers your conditional forecast for inflation, you need to loosen your proposed path for monetary policy to bring your inflation forecast back to target. If it raises your conditional forecast for inflation, you need to tighten your path for monetary policy.
Not quite so obvious, is it?
For example, you might argue that Stephen's graph means Canada needs to raise R, and tighten monetary policy. You would reason that the US economy has been weaker than it looked, which gives it much more room to grow over the next year or two, aided perhaps by the US fiscal and monetary authorities seeing the need for greater stimulus. And this higher future US growth will strengthen demand for Canadian goods compared to what you had forecast. So Canadian inflation will be higher than you had forecast, so you will need to tighten Canadian monetary policy to offset that higher conditional forecast for inflation, and bring it back down to 2%. Which means raising your target R for the overnight rate.
You might reason like that. But I don't think I would.
My tentative answer, for what it's worth, is this.
There is more to monetary policy than just a time-path for the overnight rate of interest. OK, that's a controversial statement. But even those who see it as controversial will allow that the exchange rate can also handle shocks, especially foreign shocks, to demand for Canadian goods. I'm really not sure what the news implies about future US growth. But I think it does imply that US interest rates will be lower in future than we had thought they would be. In the long run, Canadian interest rates will, on average, follow US and world interest rates. The job of the exchange rate is to handle permanent changes to demand for Canadian goods relative to foreign goods. And the job of the interest rate, relative to world interest rates, is to handle transitory shocks to demand for Canadian goods relative to foreign goods.
I think Canadian interest rates will need to be lower on the news, mainly because US interest rates will need to be lower (i.e. rise less quickly). But, if the news about US data revisions does have any implications for future US demand compared to current US demand, those implications will be mostly permanent. The exchange rate will mostly handle it, if needed. And remember, a lower Canadian interest rate will increase demand for Canadian goods. So it would need to be offset by a higher exchange rate, other things equal, to lower demand for Canadian goods back to where we forecast we wanted it to be.
I have little faith that my answer above is correct. It's a hard question.
The main point of this post is simply to say that the obvious reasoning is wrong. Learning about the US past only matters for Canadian monetary policy if it affects our conditional forecasts of the Canadian future.