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The Exchange Rate and Canadian Inflation Targeting

The author provides a non-technical explanation of the role played by the exchange rate in Canada's inflation-targeting monetary policy. He reviews the motivation for inflation targeting and describes the monetary transmission mechanism. Though the exchange rate is an integral component of the transmission mechanism, the author explains why it is not a target for monetary policy. He provides a simple taxonomy for exchange rate movements, distinguishing between movements associated with direct shocks to aggregate demand and those unrelated to such direct shocks. He explains the importance to monetary policy of determining the cause of any given movement in the exchange rate, and of determining the net effect on aggregate demand. The author also describes Canadian monetary policy during the 2003-04 period, a time when the Canadian dollar appreciated sharply against the U.S. dollar.

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File URL: http://www.bankofcanada.ca/wp-content/uploads/2010/02/wp05-34.pdf
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Paper provided by Bank of Canada in its series Working Papers with number 05-34.

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Length: 41 pages
Date of creation: 2005
Date of revision:
Handle: RePEc:bca:bocawp:05-34
Contact details of provider: Postal: 234 Wellington Street, Ottawa, Ontario, K1A 0G9, Canada
Phone: 613 782-8845
Fax: 613 782-8874
Web page: http://www.bank-banque-canada.ca/

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  1. Willem H. Buiter & Douglas D. Purvis, 1980. "Oil, Disinflation, and Export Competitiveness: A Model of the "Dutch Disease"," NBER Working Papers 0592, National Bureau of Economic Research, Inc.
  2. Murray, John, 2000. "Why Canada needs a flexible exchange rate," The North American Journal of Economics and Finance, Elsevier, vol. 11(1), pages 41-60, August.
  3. Dedola, Luca & Lippi, Francesco, 2000. "The Monetary Transmission Mechanism: Evidence from the Industries of Five OECD Countries," CEPR Discussion Papers 2508, C.E.P.R. Discussion Papers.
  4. Jean Farès & Gabriel Srour, 2001. "The Monetary Transmission Mechanism at the Sectoral Level," Working Papers 01-27, Bank of Canada.
  5. Charles Freedman, 1995. "The role of monetary conditions and the monetary conditions index in the conduct of policy [speech]," Bank of Canada Review, Bank of Canada, vol. 1995(Autumn), pages 53-59.
  6. Jiri Jonas & Frederic S. Mishkin, 2003. "Inflation Targeting in Transition Countries: Experience and Prospects," NBER Working Papers 9667, National Bureau of Economic Research, Inc.
  7. Robert Lafrance & Lawrence Schembri, 2002. "Purchasing-Power Parity: Definition, Measurement, and Interpretation," Bank of Canada Review, Bank of Canada, vol. 2002(Autumn), pages 27-33.
  8. Engert, Walter & Selody, Jack, 1998. "Uncertainty and Multiple Paradigms of the Transmission Mechanism," Working Papers 98-7, Bank of Canada.
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