Saturday, August 25, 2007

The Bank of Canada's strange behaviour

Jim Stanford, Chief Economist with the Canadian Auto Workers' Union, national columnist with the Globe and Mail and past chair of the Progressive Economics Forum has written an excellent post on the strange behaviour of the Bank of Canada in dealing with the current financial crisis brought on by the US sub-prime-mortgage-meltdown credit crunch.

Oh. You thought that was just a US problem? Not hardly. Stock exchanges and financial markets from Shanghai to Frankfurt and, Toronto in between, are being torn to shreds as speculators with collateralized securities watch the value of the paper they hold shrink like a wet angora sweater in a hot dryer.

Honestly, it's their fault and I have no sympathy for them. It's just that the damage they will wreak as a result of their attempt to sell the poor something they could not afford in the first place, and then sell the paper those mortgages were written on at inflated values will come back to bite all of us while leaving the working class in even worse condition.

The surprize was the sudden decision by the Bank of Canada to suddenly defend its interest rate by adding liquidity to the financial markets. What makes this even more surprizing is that the Bank of Canada has made the same statement over the years: Regardless of conditions, the central bank (meaning David Dodge) has made it very clear to all of us that the sole purpose, of that supposedly apolitical institution, is to defend the inflation rate.

The Bank of Canada has stood by while the exchange rate of the Canadian dollar has edged to near par with the US dollar and caused the Canadian manufacturing sector to dump 400,000 jobs. We are told by the central bank that we have to live with that. It's an adjustment and the Bank of Canada is not in the business of defending the exchange rate - it simply defends the inflation rate.

Except that isn't what the central bank is doing. Stanford does an excellent job of lighting up the scene on the Bank of Canada's behaviour and, while you might think he objects to bailing out a bunch of greedy chartered banks and speculators, he actually approves of the Bank of Canada's actions. He can explain it, but before you head over there, this is a sample of his latest column in the Globe an Mail:
What’s got me irked is the obvious contradiction between the Bank’s willingness to ride to the rescue of banks, hedge funds, and private equity dealers, versus its tough-love response to the dislocation of 400,000 factory workers.


If real businesses use cheap credit to invest in too much real production, create too many jobs, and strengthen incomes too rapidly for the Bank’s liking, then it cracks down hard. But if speculators use cheap credit to fuel a frenzied inflation in paper valuations, that’s no problem. An average worker can’t get ahead. But a speculator gets a free pass – even though the “wealth” they create is no more real than the turrets of Hogwarts Castle.
Go read. It's good and it's understandable.

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