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"Just preparing for a series of CBC radio interviews early tomorrow morning."


will probably try to listen in.. do you know what time approx.?

2 is only good for Canada in the short term for as long as you are willing to do it. Then you have a big problem when you want to cash out. The US would consider it a fool's game and be more than happy to profit from your eventual loss, high dollar policy and all.

Hi bob: lots of times from 6.00 to 9.00 am, depends on where you live (and not in all regions). Just quick general audience stuff. Nothing sophisticated.

Lord: maybe. But couldn't the Bank of Canada engineer a permanent (nominal) depreciation that way?

The BOC should do nothing. We've had a long history of floating our currency (I'm pretty sure we were the first out of Bretton Woods), and I don't see why we should change that now.

Doesn't it make more sense to target inflation, and let businesses deal with currency fluctuations? I don't think the BOC has enough bullets to keep the currency down. Even if it does, we'd be taking the path of China, and that makes me more uneasy than a higher dollar. Why would we want to sit on a big pile of Treasuries?

"Doesn't it make more sense to target inflation, and let businesses deal with currency fluctuations?"

It isn't fluctuations so much as rapid appreciations.

Consider the case where oil prices go up to and stay at $125/barrel, which would cause the Canadian dollar to rise to about $1.20.

If you're a Canadian manufacturing exporter in Southwestern Ontario, you're pretty much done. The cost of your inputs have risen rapidly, you're paying people in Canadian Dollars and getting U.S. dollars in return - which used to be worth $1.20 CDN and are now worth 83 cents.

I would be surprised if there is 1 exporter in 20 in SW Ontario that could survive that.

Dutch disease is the biggest threat to Canada - not just the Canadian economy. I'm rather shocked so few people are discussing it.

My fear is that if the BoC does nothing, inflation will fall (further) below target (or will take longer to return to target). The exchange rate is a means to an end (of inflation targeting), rather than a target in its own right.

There is no limit to the amount of Loonies the BoC can print.

Mike: I normally think of Dutch disease as a long-run phenomenon, and that we are currently dealing with a short run cyclical phenomenon. Were you thinking long run?

"Mike: I normally think of Dutch disease as a long-run phenomenon, and that we are currently dealing with a short run cyclical phenomenon. Were you thinking long run?"

I disagree that we are dealing with a short run cyclical phenomenon. I believe oil prices and the Canadian dollar are going to continue to rise (on average) for the next few years. Unless, of course, the economy falls back into a deep recession, in which case we have other problems to worry about.

It seem to me that the Canadian variant of Dutch disease is not the decline of manufacturing coincident with a discover/exploitation of natural resources. Instead, the problem is a failure to fully develop value added industries around natural resources. It's so easy to just go cut another tree and ship it to a US furniture manufacturer, why would you bother to make any further capital investment beyond your chain saw? So we never develop critical mass of skilled labor etc for value added industries to flourish. The only thing I see changing this is a massive increase in transportation costs (e.g. $140 oil).

A great example is Alberta's industrial heartland around Fort Saskatchewan. There sits the nucleus of a petro-chemical industrial center in the midst of plentiful raw feedstock, yet the preference seems to be to build a bitumen pipeline to the US. Go figure.

They could do it as long as they have the money and income to do so (or are believed to), are willing to store dollars and tolerate the resulting inflation as it is no problem for the US to just print up some more to sell you and the US is not about to tolerate deflation.

Lord: Yes. Good point. I had rather assumed the Fed would just sit there and do nothing. The Fed could go into the Forex market too and buy Loonies. (And arguably would under 1 and 2).

I had a whole sequence of posts on the Dutch Disease story a couple of years ago. During the last expansion, employment in the manufacturing sector was falling, at least partly because the CAD was appreciating with resource prices. But in contrast to the Dutch Disease story, total employment continued to rise.

The key difference is that developing the tar sands requires a *lot* of labour. For the Dutch, increasing oil production required not much more than someone turning a few dials, so they couldn't shift employment from manufacturing to resources.

If the Dutch Disease is upon us to the point that we might want to intervene in forex markets, it seems to me as though it's an explicitly short-term problem. The problem is that an explicitly short-term intervention in forex markets would be doomed to failure. The Bank of Canada can engineer a short-time depreciation, but since everyone would see that the CAD would be appreciating in the very near future, the CAD would jump right back up again.

For option 3: how do they determine what to buy? If this becomes a habit, it would surely come under political influence.

For 2., why wouldn't the US just print 100 more US dollars? Then the transaction as a whole benefits the US, doesn't it? They have exactly the same amount of US dollars in circulation as before, but they now also have 100 loonies that they can immediately use to buy wheat or something.

The $100 US they give us goes in our vault and never comes out. In the worst case, it comes out and the US has to buy it back. But in the meantime, they've earned imputed interest on the wheat they got.

I'm not an economist, so forgive me if my analysis is too naive.

The way I see it is that the BoC can engineer a nominal depreciation in the short and long run (though this might or might not conflict with the inflation target). But it can only engineer a real depreciation in the short run, while prices are sticky. I think of Dutch Disease as a long run problem too.

edeast: good question. I don't have a good answer. Doesn't sound insoluble though. The policy of adjusting interest rates to hit the inflation target seems relatively immune from political influence.

Phil: you lost me a bit there, but this may answer it. In normal times, there's no problem at all if someone wants to pay us with real goods like wheat in exchange for little bits of coloured paper and bury them in a hole in the ground. We just print more. And yes, it's an interest free loan for as long as they keep those bits of paper in a hole in the ground. But these are weird times. Central banks and governments around the world are desperately trying to get people to stop hoarding money in holes in the ground, and spend it.

Nick, thanks. But WHY does the US object to us hoarding their money in holes in the ground? They can print more and distribute it to people who will spend it -- plus, get free wheat!

That is: suppose we buy $300 million US dollars and bury them in a hole in the ground. We give the US $300 million in wheat in exchange.

The US government prints $300 million dollars, and uses it to buy 300 million $1 gift cards to Starbucks. It distributes a gift card to every American.

Result: $300 million of free wheat, and $300 million in spending.

Of course, if every American reduces (increases) his spending (hoarding) by $1 after receiving the gift card, then it's still a break-even from the hoarding standpoint. But with free wheat!

Phil: substitute China for Canada, and Chinese manufactured goods for wheat, and you have just described the last decade!

Going back to Canada, and today, what you are describing is a US fiscal expansion (the gift cards to Starbucks) to offset the Canadian policy of intervening in forex markets. But the US would know that at some time in the future Canada would take the US dollars out of the hole in the ground, and spend them on US goods. The US would then have to reverse course, and tax every US citizen an extra $1 to prevent excess demand for US goods. In other words, the current US fiscal expansion implies an increase in US debt, and higher future tax liabilities. The US is worried about its current level of debt.

With 3, it seems that forgone appreciation in the dollar would be used to reward certain owners of an asset. If I knew what they were going to buy before it happened,say the tsx300. I would take out a large loan in canadian dollars convert to american buy some of the cross listed stocks. Then cash out the day of the sale, convert back, pay off my debt which would be less. So theoretically having made money on the fx side, the stock sale and the debt. From the site http://www.bankofcanada.ca/en/backgrounders/bg-e2.html , it appears that they prefer the sterilized route but that they look to do it in concert with other countries, so if our desire for a lower dollar is opposed to others, it might not happen. If we do 3: then they've got to figure out a mechanism, that's fair internally.

re: Nick 9:13
I don't know if I'm butting in on Phil's convo but,

"The US would then have to reverse course, and tax every US citizen an extra $1 to prevent excess demand for US goods."

Wouldn't excess demand for US goods help pull them out of recession? Isn't it a good thing? Raise prices, or am I not understanding the S/D post

edeast: "butting in" is allowed, and encouraged.

The danger is that the excess demand will come in normal times, after the recession is over, when it's not needed.

OK, I think I kind of get it now.

If I understand: even though the US would be getting the equivalent of free interest, the timing of the transaction (both ways) has consequences that are worse than the benefit of the free interest.


Given that China does #1 in a big way I question the conclusion that doing so is intrinsically bad.

The other element of Chinese policy is that they do #1 against a background of significant unsterilized activity as well.

Does this change your analysis?


I like to think of this as my specialist subject!

A central bank would normally reinvest the dollars they bought in dollar (typically US government) bonds so that either sterilised or unsterlised intervention would not affect the dollar money supply. Although I have never tested it econometrically, I believe that even sterilised intervention has at least some effect, and would weaken the loonie versus the US dollar.

I would consider moral repercussion 3 to be correct, and have argued this in the context of Chinese intervention - you might find my blog post http://reservedplace.blogspot.com/2008/04/us-economic-policy-shot-in-foot-2.html helpful in that regard.

However, given the temptation for the US to follow a path of inflationary repudiation of its debt, it would be prudent for Canada to buy some euros and yen too. In my view, even intervention in non-dollar loonie pairs can affect the loonie/dollar exchange rate, as I explain at: http://reservedplace.blogspot.com/2008/07/to-peg-is-not-to-hold.html

By the way, I skim read the previous post as far as your GSE comment; they were GCE (General Certificate of Education) O'levels when I did them! There were also CSE's (Certificates of Secondary Education), although I would doubt that you did them given that you became an academic. And both have since been replaced by GCSE's (which stands for guess what), which I would argue was a sign of the process that led to the financial crisis, but that's a long story.

Eventually selling those dollars would lower its exchange rate and this would do the heavy lifting. This would diminish imports and increase exports making it easier to repay. Even an increase in interest rates to reduce inflation/reduce the decline in exchange rate would be less than the gain from a lower exchange rate. I don't think most would call having customers a tax though they do have to serviced, and most imports can be substituted or production shifted.

Jon: if I were American, and talking about the China/US exchange rate, it might indeed change my conclusions, but not the analysis. Canada's main trading partner is the US, and as far as I know, the US Fed has not been intervening in forex markets to buy Loonies. So there are neither moral nor pragmatic grounds for Canada to risk starting a devaluation war with the US.

That doesn't necessarily mean I would advocate the US Fed intervening in forex markets to devalue the dollar against the Yuan. I'm going to duck that question.

Rebel: It's not at all my specialist subject. I have never understood imperfect capital mobility properly at an intuitive level. There seem to be two versions: the "flow" version and the "stock" version. According to the flow version, the exchange rate depends on the flow of assets traded in the capital account. (It takes a change in level of the interest rate differential to induce a change in level of capital flows). According to the stock version, it's the relative stocks of foreign and domestic assets that are related to the exchange rate differential. There's also the question of what we include in "assets" above. And is the difference between a "domestic" and "foreign" asset determined by the currency it promises to pay, or whether the promisee is a domestic or foreign resident?

(Aha! Yes, I did O levels, and was obviously muddled between GCEs and CSEs. Then there was the TB vaccination they gave us all around the same age at school-- BCG?)

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