Monetary policy was also more accommodative than it should have been through this
period, as the Bank of Canada sought to moderate
the upward pressure on the currency and to
support aggregate demand as the global economy
slowed because of the oil-price shock. In
hindsight, the Bank failed to “recognize the extent
to which the economy in general and the labour
market in particular were coming under strain”
(Bank of Canada Annual Report 1980, 17). In other
words, the Canadian economy was operating closer
to its capacity limits than was earlier believed. Fiscal
policy was also very expansionary through this
period. While the 1974–75 slowdown in Canada
was relatively shallow compared with that in the
United States, where policy was less accommodative, inflationary pressures intensified.
To address these inflationary pressures, an
anti-inflation program, including wage and price
controls, was introduced by the government in late
1975,
and the Bank of Canada adopted a target for
the narrow monetary aggregate, M1, with the
objective of gradually reducing the pace of money
growth and thus inflation. After weakening
temporarily in 1975 and falling below parity with
the U.S. dollar, the Canadian dollar recovered in
1976. Wide interest rate differentials with the
United States provided considerable support for the
currency, with provinces, municipalities, and
Canadian corporations borrowing extensively in
foreign capital markets. Foreign appetite for
Canadian issues was enhanced by the removal in
1975 of the 15 per cent federal non-resident
withholding tax on corporate bonds of five years
and over.
Foreign borrowing helped to mask the
effects of deteriorating Canadian economic
fundamentals on the Canadian dollar.
The currency moved up to the US$1.03
level during the summer of 1976 in volatile trading,
but the election of a Parti Québécois government
in Quebec on 15 November 1976 prompted
markets to make a major reassessment of the
Canadian dollar’s prospects. Political uncertainty,
combined with softening prices for non-energy
commodities, concerns about Canada’s external
competitiveness related to rising cost and wage
pressures, and a substantial current account deficit,
sparked a protracted sell-off of the dollar.
A History of the Canadian Dollar 75
Canada, $1, Trudeau just-a-buck, 1972
This example of “political currency” satirizes former
Prime Minister Pierre Trudeau and was circulated during
the campaign of 1972 prior to his second term in office.
76 A History of the Canadian Dollar
Over the next two years, the Canadian
dollar fell significantly, declining to under US$0.84
by the end of 1978. This occurred even though the
U.S. dollar was itself depreciating against other
major overseas currencies and despite considerable
exchange market intervention by the Bank of
Canada on behalf of the federal government to
support the Canadian dollar. To help replenish its
international reserves, the federal government
established a US$1.5 billion stand-by line of credit
with Canadian banks in October 1977. This facility
was increased to US$2.5 billion the following April.
A similar US$3 billion facility was organized in
June 1978 with a consortium of U.S. banks. The
federal government also borrowed extensively in
New York and in the German capital market to
assist in financing the current account deficit and
to support the currency.
The Bank of Canada
tightened monetary policy through 1978, with the
Bank Rate rising by 375 basis points to 11.25 per
cent by the beginning of January 1979. Early in
1979, the federal government undertook additional
foreign borrowings, this time in the Swiss and
Japanese capital markets.
Notwithstanding the tightening in monetary
policy, inflation pressures did not abate, even
though the rate of monetary expansion was kept
in line with announced targets, and the Bank Rate
touched 14 per cent by the end of 1979. Against
this backdrop, however, the Canadian dollar
steadied and ended the year close to US$0.86.