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 Investors understand the Fed's thinking much better than they did
when Chairman Ben Bernanke first mentioned the possibility of
tapering the U.S. central bank's $85 billion in monthly asset
purchases on May 22, Poloz said.
The market's huge one-way bets on the Fed continuing its so-called
quantitative easing suddenly had to reverse at that time, causing
market turmoil, but Poloz argued that the impact now will be much
smaller.
"The good news is that we kind of washed that out last summer.
People understand it much better now, and my sense of it is that
there isn't anything like that kind of stacking (leveraging) in the
marketplace," Poloz, 59, said in an interview at the central bank's
Ottawa headquarters.
"So I think that the volatility thing is probably not nearly as
concerning as what we saw then."
In addition, the Fed's tapering will take place in the context of a
strengthening U.S. economy, which should give a lift to Canada's
economy, he said.
A two-day meeting of the Fed's policymaking Federal Open Market
Committee, at which officials could decide to trim the monthly
purchases, ends on Wednesday.
While recent strength in the U.S. labor market has raised the chance
that the policymakers might start tapering as soon as this week,
most economists expect the Fed to keep its stimulus program fully in
place until next year.
Turning to Canada, Poloz said the No. 1 risk to the outlook for the
domestic economy in 2014 is that exports, which rely heavily on U.S.
demand, will not recover as anticipated.
Disappointing exports are a puzzle to Poloz, an expert on trade
issues after his 14 years in senior roles at the country's export
credit agency before he became the Bank of Canada governor on June
3.
"About half of our export base is lagging significantly foreign
demand and we don't really understand if it's because there's been a
structural change," he said.
It is not clear whether the lag is due to Canadian companies
disappearing, losing capacity or simply doing business elsewhere
instead of in Canada, he said.
Adding to the export conundrum is business investment, which is
lower historically, than it has been following a recession, and
inflation that has been below the bank's 2 percent target for a year
and a half.
"Those are three things that are pretty crucial to our economy and
how we get back to an inflation target, and in all three cases we're
having trouble explaining what we see," Poloz said.
The governor also repeated that the central bank had a neutral
stance on interest rates. Asked to confirm this meant there was an
equal chance of a rate cut as a rate hike, he said: "That's what
neutral would mean. It could also mean that we don't know which way
they would go next."
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The central bank's policy shift to neutral in October came after 18
months of signaling rate hikes were on the horizon. Although the
bank flagged low inflation as a growing worry, it also signaled a
reluctance to cut rates for fear of exacerbating record-high
household debt. The bank went a step further in December, saying the
inflation risk was now greater.
Poloz said he believes Canada's housing market is in for a "soft
landing," which he defined as stabilization, rather than a decline.
Canada's housing market avoided the crash experienced in the United
States and boomed following the 2008-09 recession, acting as a major
driver of growth.
Poloz said that "despite all the excitement" about a possible
housing bubble in Canada — some studies have recently shown Canadian
housing to be the most over-valued in the world — the activity in
the market in the past year has been fairly close to demographic
demand.
"All the anecdotes suggest that the supply is being absorbed
normally," he said.
The ratio of household debt to income hit a record high 163.7
percent in the third quarter. While Poloz said it remained a high
risk, he also noted it had been rising for a whole generation and at
least partially reflected a more mature financial system.
"So there is not really a magic number," he said.
Poloz said a number of factors that have boosted the Canadian dollar
remain in effect: relatively high oil prices, a strong banking
system, foreign inflows and the fact some investors view it as a
safe haven.
He said the weakening this year in the Canadian dollar may have been
caused by sentiment on Fed tapering and a general normalization of
the economy.
"If things are going back to normal, there could be a little bit of
adjustment in the currency; maybe that's what we've already seen,"
he said, adding that he did not want to extrapolate about where the
Canadian dollar is now headed.
(Additional reporting by David Ljunggren;
editing by Peter Galloway, Jeffrey Hodgson and Dan Grebler)
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