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Monetary policy framework

  • November 24, 2004

    Asset Prices and Monetary Policy: A Canadian Perspective on the Issues

    The issue addressed in this article is the extent to which monetary policy in Canada should respond to asset-price bubbles. The article concludes that maintaining low and stable consumer price inflation is the best contribution that monetary policy can make to promoting economic and financial stability, even when the economy experiences asset-price bubbles. In extreme circumstances—when an asset-price bubble is well identified and likely to have significant costs to the economy when it bursts—monetary policy might better maintain low and stable consumer price inflation by leaning against a particular bubble even though it may mean that inflation deviates temporarily from its target. Such a strategy might reduce the risk that a crash in asset prices could lead to a recession and to inflation markedly below target in the longer run. The circumstances where this strategy is possible will be rare because economists are far from being able to determine consistently and reliably when leaning against a particular bubble is likely to do more harm than good. Housing-price bubbles should be a greater concern for Canadian monetary policy than equity-price bubbles, since rising housing prices are more likely to reflect excessively easy domestic credit conditions than are equity prices, which are largely determined in global markets.
  • May 22, 2004

    Exchange Rate Pass-Through in Industrialized Countries

    Economists' long-standing interest in the degree to which exchange rate movements are reflected in prices was rekindled in the 1970s by a combination of rising inflation and the adoption of more flexible exchange rate regimes in many industrialized countries. Specifically, there were concerns that a large currency depreciation could degenerate into an inflationary spiral. Such fears were curtailed in the 1980s and early 1990s as industrialized countries began to reduce and stabilize their inflation rates. The low-inflation period most industrialized countries entered approximately a decade ago coincided with significant exchange rate depreciations that had much smaller effects on consumer prices than expected. This led to a belief that the extent to which exchange rate movements are passed through to consumer prices has declined. In this article, the authors examine why pass-through could be incomplete and review empirical estimates to determine whether pass-through has indeed declined, suggesting possible reasons for this decline and discussing the implications for monetary policy.
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