Description
Abstract: Canada is the quintessential “small open economy.” It has very close ties with the United States in both trade and capital movements. On the financial side, interest rate movements in the United States can affect Canada fairly quickly through their influence on the exchange rate and on domestic interest rates. As a result, economic and financial developments in the United States have an important influence on the Canadian economy and on policymaking in Canada. The changes in the Federal Reserve operating procedures of October 6, 1979, and the subse- quent wide fluctuations in short-term and long- term U.S. interest rates had significant effects on interest rate and exchange rate developments in Canada and thereby on Canadian monetary policy. This paper examines a variety of issues related to these developments. The next section of the paper sets out the background to the Canadian economic situation in the latter part of the 1970s. In the following section, I examine the analyses carried out in the Bank of Canada in response to the announcement of October 6, focusing partic- ularly on the analysis of the new operating pro- cedures announced on that date. The subsequent section of the paper looks at the effects of the change in the U.S. policy framework and of the resulting U.S. interest rate movements on Canadian financial developments and on the way they affected policymaking in Canada. A final section offers some concluding remarks.