Notes for Lecture 17: Macro 1: Monetary Policy and the Role of the Bank of Canada
[with models] [February 9, 2010]
Economic Concepts: macro goals: full employment and price stability, consumer price
index, “core” inflation, central bank, role of central bank, inflation, cost push inflation,
demand pull inflation, printing press inflation, monetary policy, “easy” money policy,
“tight” money policy, inflation targeting by Bank of Canada, discretionary fiscal policy,
expansionary fiscal policy, restrictive fiscal policy, final goods and services again which
forms statement of Gross Domestic Product [Lecture 2], aggregate demand [AD], short run
aggregate supply [SRAS], assumptions behind AD, assumptions behind SRAS, shocks to AD
and SRAS, the Greenspan hypothesis, stagflation, cash reserves of the chartered banks, cash
reserve ratio, M1 money supply, currency in circulation [CIC], Bank of Canada notes,
Canadian currency, multiple expansion [contraction] of deposits in banking system and the
M1 money supply, the banking multiplier, open market operations [OMO].
NOTE: TO BE COVERED IN LECTURE 18: the transmission mechanism, transactions
demand for money, speculative demand for money, liquidity preference curve [LP],
marginal efficiency of investment [MEI], savings/investment equilibrium, conditions for
effective monetary policy [elasticities of LP and MEI; short-term interest rate adjustments
relative to balance-of-payments deficits].
Macro Policy Goals
The macro economic goals for Canada are full employment with price stability. I define full
employment as 95% employment [5% unemployment] and price stability as the condition where
the measurement of price increases does not exceed 5% per year. [ See Lecture 1.] Core inflation
in Canada is falling and in the 2% target range.
In recent years, the unemployment rates have been strongly declining in both Canada and the
United States. The unemployment rate in the United States reached a very unusually low rate of
4%, during 2000 and stands today in the low 5 percentage range. Canada now has reached the
lowest level of unemployment in recent years at 5.8% in January, 2008.
As the global slow-down develops, the unemployment rates in Canada and the United States have
both risen significantly – more so in the United States, where it is currently above 7.5%.
With respect to price stability, the Bank of Canada and the Canadian Government have agreed to
a goal that price increases [inflation] should be contained between 1% and 3%. This is the Bank
of Canada’s definition of price stability.
The Bank of Canada has recently defined modified “core” inflation [CPIX] as the rise in the
Consumer Price Index [CPI] when mostly fruit, vegetable and energy elements have been
extracted from the basket of goods on which the CPI has been measured.. The “core” inflation
elements constitute about 84% of the total basket of goods which are included when the consumer
price index is generated.
The Bank of Canada holds that it is this definition of “core” inflation that should be contained