Canada's Monetary Policy & Fiscal Policies

by Walter Johnson

Canada is one of the more fiscally successful industrialized countries in the world. Its external debt is low, and it regularly has a surplus, both at the federal and provincial level. Canada's commodity production, such as oil and metal, has much to do with this success. It also does not need to maintain huge military forces around the globe as the U.S. does, and hence, has far more freedom in its fiscal policy than the U.S.

Public Works

Canada has long stressed public investment in infrastructure. In 2008, the Ministry of Finance announced that it was putting more than $30 billion into infrastructure and other public works. At the same time, given increasing concern about the dollar, the Ministry of Finance also announced a massive set of tax decreases on small businesses, the sales tax and personal income taxes. The point was to free up domestic resources for productive investment.


Because Canada has substantial budget deficits, and its external debt is the lowest among the G7 countries, cutting taxes is a fairly easy project for the country. It is clear, however, that the slow recovery of the American economy means that the Canadian government may have to run small, temporary deficits in order to finance the infrastructure and tax cuts required to jump start the Canadian economy. If the Canadian economy continues its growth, then the tax cuts will easily pay for themselves through increased economic activity. Therefore, the basic fiscal policy of Canada is expansionist in that it wants to increase domestic spending, but to do so in an environment that does not increase deficits. Only a growing economy can accomplish both of those things.


Like most central banks, the Bank of Canada has controlling inflation as its main, almost singular, policy goal. In general, the Bank of Canada wants to see inflation consistent at 2 percent each year, with only a 1 percent change either positive or negative in the event of an economic emergency. The goal is for the inflation rate to not go higher than 3 percent, and never lower than 1 percent.


The proper allocation of domestic resources is the more general goal of the Bank of Canada. If firms need to incorporate threats of higher inflation into all their contacts, this means that capitalization of industry and banking must increase. Under normal circumstances, this capitalization is wasteful, especially in an economy that is basically optimistic about its future. Even with this clear policy goal, however, the Bank of Canada has assisted the Canadian government in restructuring any investment that is not backed by any capitalization measure. Learning from the mistakes of the American and European banks, the Bank of Canada has refused to permit risky loans to be under-capitalized. In other words, the only time when high capitalization requirements are necessary is for loans that are risky, the same type of loans that damaged the American financial establishment.

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