(Adds details from speech, comments on Fed, background)
By Jonathan Montpetit
MONTREAL, Feb 8 (Reuters) - Central bankers cannot take
primary responsibility for upholding financial stability because
interest rates are too blunt an instrument to address potential
problems in just one part of the economy, a Bank of Canada
official said on Monday.
Record high consumer debt and hot housing markets in some
Canadian cities have fueled worries that over-extended borrowers
pose a risk to the financial system.
But Bank of Canada Deputy Governor Timothy Lane noted that
while stimulative monetary policy might cause vulnerabilities to
build up over time, failing to ease in an economic downturn
could worsen the contraction, causing a crisis.
The central bank cut interest rates twice last year as
collapsing oil prices pushed the country into a mild recession.
"Interest rates affect all parts of the economy and are too
blunt an instrument to address an imbalance in just one part of
the economy - household credit," he said.
He made the case for macro prudential tools, such as
government tightening of mortgage regulations, to promote
financial system safety, allowing the central bank to focus on
inflation.
The Liberal government announced in December it would force
people who want to buy more expensive homes to provide a bigger
downpayment. The former Conservative government made similar
moves.
In Canada's case, there has been a tension between cutting
rates to stimulate growth and the disproportionate boost that
would have on rate-sensitive sectors such as housing, Lane said.
Bank research estimates that increasing rates by 1
percentage point for one year would reduce household debt by 2
percent over five years, Lane said, but the same increase might
cut output by up to 1 percent and hold inflation down by 0.5
percentage point compared to where it would otherwise be.
"These results suggest that, even though monetary policy
could, in principle, be used to reduce vulnerabilities in the
financial system, it may be too costly in practice," he said.
Lane said that in a situation of sustained weak demand in
the economy, fiscal policy may be needed to provide stimulus,
particularly as it is likely to be more effective at low
interest rates.
The bank said in January it had not included in its
forecasts the positive impact of the fiscal stimulus promised by
Prime Minister Justin Trudeau in the upcoming federal budget.
Lane reiterated the bank is not obliged to follow the U.S.
Federal Reserve, which raised rates in December.