Now here's a central banker

Just read this off the Globe and Mail site. I think his frankness is what central bank heads should be doing. The number one priority of any central bank is to maintain its own credibility. Once that goes, your currency is done. Something that Paul Volcker understood very clearly.


Dodge says he should have driven rates up 'harder'
TAVIA GRANT

Reuters, Globe and Mail Staff

September 14, 2007 at 5:26 PM EDT

Bank of Canada Governor David Dodge says he should have driven up interest rates “harder” before the current global credit squeeze to tighten borrowing conditions, according to an interview published in The Economist magazine.

In a mea culpa to financial markets, he said the central bank may have played a role in fomenting excesses in credit markets prior to the disruption stemming from rising defaults on payments by U.S. subprime mortgage holders.

“One can see in retrospect that we should have been driving those rates harder than we did, because in reality credit conditions were being eased by increased securitization and movement of stuff off balance [sheets],” he said in an interview published this week.

Bank of Canada spokesman Jeremy Harrison confirmed the accuracy of the remarks. Mr. Dodge was in London Wednesday to give a speech.


The Bank of Canada left its key overnight lending rate unchanged at 4.25 per cent for more than a year before raising it to 4.5 per cent in July.

The bank signalled in July its intention to raise rates further to attack inflation but the global liquidity problems forced it to change its tune. On Sept. 5, the bank held rates steady, citing the credit problems.

Canada's asset-backed commercial paper has been severely rattled by the subprime collapse. An Aug. 16 accord reached by players in the sector of that market that is not sponsored by banks allowed for a 60-day standstill period while they figure out how to restructure the paper into longer-term notes.

Mr. Dodge said the process could take several months because of the complexity of the assets. “Every one of these conduits is different. Some are very engineered and highly leveraged,” he says. “In the end, the conduits will have to be taken apart.”

Mr. Dodge also said this week he is skeptical that recent moves by the European Central Bank to calm money markets are doing any good.

His comments come as the ECB is injecting billions of euros into three-month bills to try to stabilize lending in money markets.

“I'm not sure, practically, whether it would do anything,” Mr. Dodge told the Financial Times in an interview in London Wednesday.

“If I thought that somehow there was a magic wand and if we did that for three or four days, then all of a sudden the markets would clear and life would be beautiful ... There is no principle that says [this] is a bad thing to do, but I can't believe it will do the job.”

That frankness comes ahead of an expected announcement on who will replace Mr. Dodge as Canada's top banker after his much-lauded seven-year tenure. Some speculate the decision may come as early as next week because that's when the central bank's board meets. Officially, an announcement is due this fall.

Mr. Dodge also said it was not the duty of central bankers to “bail out people who have made losses.”

Mr. Dodge isn't the only one saying central banks should limit their interference. Bank of England governor Mervyn King said this week that it's “certainly not our job to somehow bail out people who have made losses”, as that would eventually spark inflation.

That said, on Friday the Bank of England bailed out Britain's biggest casualty so far in the global credit crunch. Problems at mortgage lender Northern Rock meant Britain's finance minister Alistair Darling authorized official help from the Bank of England – the first time the UK central bank has acted as lender of last resort since 1997.

European central bankers are meeting today in Portugal to discuss how the market turmoil will affect economic growth.

Mr. Dodge stressed that more transparency is needed in the market, and that things will take time to sort themselves out.

“Going forward, nobody can issue the stuff right now because there are no buyers and so what will take a while is for people to put together considerably more transparent products and testing to see if there is a market for it,” he told the Times.

Mr. Dodge stresses that while more transparency is needed, that's not a precursor for tighter regulations.

“I'm not really sure, quite frankly, that there is much value added by governments or regulators coming in and telling people what to do,” he said.

A new business model adopted by banks of arranging loans and then parcelling out the risk among investors was flawed because those selling loans did not have enough incentive to make sure borrowers paid them back, said Dodge.

“You don't make the appropriate credit judgment if all you're doing is thinking, ‘Gee, there's this opaque market out there that appears to have a voracious demand for more stuff.”' Mr. Dodge also criticized credit rating agencies who gave triple -A credit ratings to highly structured products without explaining all the attendant risks.

“I won't let the credit ratings agencies totally off the hook. They didn't work terribly hard to make sure people understood their ideas,” he said.