Canada hits Bank of Japan’s problem at warp speed

The Canadian central bank will from April 26 reduce its target for weekly net purchases of government bonds

  
The Bank of Canada building is pictured in Ottawa June 1, 2010.

The Bank of Canada building is pictured in Ottawa June 1, 2010.

Reuters/Chris Wattie

(The author is a Reuters Breakingviews columnist. The opinions expressed are her own.)

LONDON - Any central bank that is likened to Japan usually has a problem. It’s certainly the case for the Bank of Canada Governor Tiff Macklem, who said on Wednesday that he will trim his asset purchase program. In a relatively short time, his central bank has racked up a stock of government debt that rivals the prodigious hoard of Bank of Japan Governor Haruhiko Kuroda.

The Canadian central bank will from April 26 reduce its target for weekly net purchases of government bonds to C$3 billion from C$4 billion to reflect the country’s brighter economic prospects. Granted things are looking up, but in an ideal world, waiting might have been safer. A new wave of coronavirus has led to restrictions being reimposed in some provinces. And tapering bond buying when U.S. Federal Reserve Chairman Jerome Powell is a long way from doing so may end up causing an export-damaging rise in the Canadian dollar’s value against its American counterpart.

One factor that could have swayed the decision is that the Bank of Canada now owns about 42% of outstanding government bonds compared with less than 10% before March 2020. This means that after only a year of buying up securities it owns almost the same proportion of the government bond market as the Bank of Japan, which has been loading up on its own debt over two decades.

Buying government bonds helps the economy by keeping a lid on the borrowing costs that act as the benchmark for the rest of the economy. But if a central bank becomes too dominant in a market, trading grows illiquid and prices can become volatile. There’s no fixed tipping point at which this happens. But once a bank owns more than half of its outstanding debt, the risks may become more acute.

This isn’t an immediate problem for Macklem. And the Bank of Canada’s total assets are smaller relative to GDP than other countries. But as other central banks have discovered, it’s a lot easier to grow balance sheets than to shrink them. The fewer bonds Macklem can get away with buying now, the more wiggle room he and his successors may have to help the economy in the future.

CONTEXT NEWS

- The Bank of Canada on April 21 left its key policy interest rate unchanged at 0.25% and said it would reduce its net weekly purchases of government bonds to C$3 billion from C$4 billion from the week of April 26.

- “This adjustment to the amount of incremental stimulus being added each week reflects the progress made in the economic recovery,” the central bank said.

(The author is a Reuters Breakingviews columnist. The opinions expressed are her own.)

(SIGN UP FOR BREAKINGVIEWS EMAIL ALERTS http://bit.ly/BVsubscribe | Editing by John Foley and Amanda Gomez) ((swaha.pattanaik@thomsonreuters.com; Reuters Messaging: swaha.pattanaik.thomsonreuters.com@reuters.net))

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