International Transmission of Quantitative Easing Policies: Evidence from Canada

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Unconventional monetary policies, such as quantitative easing (QE), are no longer so unconventional: many countries are now considering bond purchases as part of their standard monetary policy toolkit to fight off recessions. But how do QE policies implemented to stimulate one country’s economy spill over to its trading partners?

In this paper, we evaluate spillovers from US QE policies to the Canadian economy. We start with the assumption that the US QE policies improve financial conditions by lowering long-term borrowing costs and increasing asset prices in the United States. Then we measure the impact of the US QE policies on a large number of Canadian macroeconomic and financial variables, including output, inflation, unemployment, trade, exchange rate, asset prices, financial conditions and international portfolio variables.

Our results suggest that US QE policies have expansionary effects for Canada despite an appreciation of the Canadian dollar. The Canadian economy is stimulated thanks to the reduction in domestic borrowing costs (lower long-term rates and financial premiums) and the increase in asset prices. We also provide evidence of foreign investors’ increased appetite for Canadian assets. These results hold regardless of the duration and risk levels of the Canadian assets. In addition, investors in the United States—as opposed to those in other countries—consider Canadian bonds a close substitute for US ones. Our results are in line with theoretical models featuring international portfolio balancing and risk channels.