Canada’s Experiment with a Floating Exchange rate

During the 1950s and Its Fear of Appreciation

Pierre L SiklosWLU VERC

The Story line

New evidence on the behavior or foreign exchange reserves leads to a re-assessment of policy conduct in the 1950s PART I: Coyne Affair PART II: The so-called ‘float’ of the 1950s

The Evolution of Exchange Rate Regimes

Identifying Exchange Rate Regimes The Two Corners or Bi Polar Views Is it a ‘Fear of Floating’ or a ‘Fear of

Depreciations’ or Appreciations ER Inflation <pass through> slower

economic growth crisis Fischer; Reinhart – Rogoff; Levy Yeyati –

Sturzenegger; among others

Canada in the 1950s

Longest track record with a Floating Exchange rate

Monetary Policy Innovations Going against Bretton Woods…temporarily High degree of capital mobility

Capital Mobility in Canada

-300

-200

-100

0

100

200

300

1953 1954 1955 1956 1957 1958 1959 1960 1961

Mill

ions

of D

olla

rs

Canada in the 1950s

Longest track record with a Floating Exchange rate

Monetary Policy Innovations Going against Bretton Woods…temporarily High degree of capital mobility

Bottom Line The float was not a pure one

A Tumultuous Decade Ending of Peg against the US Dollar A Decision to ‘float’ the currency Adopting an interest rate instrument and an

accompanying money market Korean War 2 Major US recessions Battle against inflation loan conversion

program Conflict between Governor and Government

<Coyne Affair>

New Evidence Archival evidence reveals

Intervention Fear of Appreciation

‘depoliticizing the exchange rate’ Helleiner 2006 <“It will be very difficult however for the authorities in charge of a fixed rate to recognize the appropriate time for such a move” Coyne 1949 LR 76115 13 1 >

Previous good experiences with the float in Canada …But it would not last. Canada returns to BW

by early 1960s

The Background The decision to float in 1950 <September>was

supposed to be ‘temporary’ …but there were differing views about how long the

situation would last The original press release

“Fluctuations in the basic rate will no doubt occur from time to time in accordance with changing conditions of supply and demand: After a short transitional period it is expected that reasonably stable conditions will develop in the exchange market.”

Nominal ER Reserves

0.88

0.92

0.96

1.00

1.04

1.08

1.12

1.16

1,000

1,200

1,400

1,600

1,800

2,000

2,200

2,400

1950 1952 1954 1956 1958 1960

Nominal exchange rateOfficial international reserves

CA

D p

er U

S do

llar

Millions of U

S dollarsCoyne's Governorship

Trough Trough Trough

Coyneresigns >

<CADfloats

Korean War

Key Features

Negative relationship between ER and Reserves during the 195157 period

Relative stability in levels and low volatility October 2 1950 the Minister of Finance DC Abbott

authorizes intervention to bring the “premium” down to at least 3 In advising the Governor the Minister wrote: “…you must use your judgment as to the timing and extent of such sales” Abbott 1950

Intervention in the FOREX market

Archives suggest it took place during 195157 Other factors take over after that “It seems desirable that any decision deliberately to

influence the exchange rate should be based upon a determined and publicly announced policy by the Government …” Coyne 1961a vol 1 p 2

Wonnacott 1965 refers to the 1958 1962 era as a “return to a pegged rate” but adds that “… the authorities engaged in only very limited exchange intervention” op cit p 233

Intervention

-3

-2

-1

0

1

2

3

-600

-400

-200

0

200

400

600

1951:1 1952:1 1953:1 1954:1 1955:1 1956:1 1957:1

Foreign exchange interventionsBank rateNominal exchange rate

Nor

mal

ized

scal

e (C

AD

/US,

Ban

k ra

te)

Thousands of dollars (N

et)

Related Literature

Friedman 1953 was not the inspiration Was speculation stabilizing

BDS 2007 assume a pure float and intervention ineffective Based on highly selective literature review Contradicts a significant portion of research through

the 1970s All based on official international reserves data

Evaluating ER Policy During 195157

Data Daily; weekly; quarterly Intervention data from BoC Archives Official reserves only at monthly frequency <> No Forward rate series can be constructed

Stylized facts and Basic Relationships

Exchange Rates and Intervention

-20,000

-15,000

-10,000

-5,000

0

5,000

10,000

15,000

0.94

0.96

0.98

1.00

1.02

1.04

1.06

1.08

PurchasesSalesNominal exchange rate

Tho

usan

ds o

f U

S do

llars C

AD

per US dollar

Intervention Summary Statistics

Year (1)Number of Days

(2)Intensity

(3)Simultaneous Activity

1951 15 .08 (.03) 2

1952 9 .02 (.02) 2

1953 15 .01 (.02) 3

1954 21 .02 (.03) 3

1955 31 .01 (.05) 9

1956 12 .01 (.02) 1

1957 3 .03 (.01) 0

US Versus Canada

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

1951:01 1952:01 1953:01 1954:01 1955:01 1956:01 1957:01

Discount rate: USBank rate: Canada

Perce

nt

US Versus Canada

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

1951:01 1952:01 1953:01 1954:01 1955:01 1956:01 1957:01

90 day Tbill: Canada90 day Tbill: US

Perce

nt

US Versus Canada

-80

-40

0

40

80

120

160

-1.2

-0.8

-0.4

0.0

0.4

0.8

1.2

1951 1952 1953 1954 1955 1956 1957

Official international reservesInterest rate differential

Chan

ges in

Offic

ial R

eser

ves (M

Illion

s)

CA

D less U

S T

bill rate

-.6

-.4

-.2

.0

.2

.4

.6

.8

-1.6

-1.2

-0.8

-0.4

0.0

0.4

0.8

1.2

1951 1952 1953 1954 1955 1956 1957

Spot market inteventionsInterest rate differential

Inte

rven

tion

(M

illion

s of

US d

olla

rs)

CA

D less U

S T

bill rate

Exchange Market Pressure

-5

-4

-3

-2

-1

0

1

2

3

4

1954 1955 1956 1957 1958 1959 1960

tttUS

t FERe)ii(ERP 321

Intervention and the ER Again

-20,000

-15,000

-10,000

-5,000

0

5,000

10,000

15,000IN

TER

VEN

TIO

N

-0.8 -0.4 0.0 0.4 0.8 1.2DLN_ER

A Target Zone Approach The Simplest Test

-10.0

-7.5

-5.0

-2.5

0.0

2.5

5.0

7.5

10.0

1951 1952 1953 1954 1955 1956 1957

ER: interest rate basedER: maxER: minER: exchange rate based

Exp

ecte

d ra

te o

f cha

nge in

the ex

chan

ge rat

e

Asymmetric Intervention

2R

Independent Variables

Coefficient (t-values) [p-value]

Constant 0.13 (3.65) [.00]

e -3.50 (-8.43) [.00]

DMAX 0.18 (0.68) [.50]

DMIN -0.48 (-1.87) [.06]

Summary Statistics

.053

F 35.20 (.00)

Observations 1826

tMINt

MAXttt DDeINT 3210

Alternative ‘Experiments’ and a Counterfactual

Was the 195157 period like the Managed Float of say the 1980s ‘Pure Float’ of the 2000s ‘Pure Float of the 195862 period

Is it Only a Levels Story

.0

.1

.2

.3

.4

.5

.6

Conditional Volatility: 2000-2006 (pure float)Conditional Volatility: 1951-1957 (fear of appreciation)Conditional Volatility: 1989-1995 (managing volatility)

195119892000

195719952006

Con

dito

nal v

aria

nce

Time Series Tell the Tale

2R

Table 3 (1)Jan. 4, 1951 – Dec. 31,

1952

(2)Jan. 4, 1951 – Dec. 31,

1957

(3)Jan. 5, 1989 – Dec. 29,

1995

(4)Jan. 6, 2000 – Dec. 29,

2006

Mean Equation

Constant -0.005 (-3.52, .00) -0.005 (-3.30, .00) -0.011 (-1.78, .08) -0.01 (-0.58, .56)

INTt -0.004 (-2.54, .01) -0.004 (-2.58, .01) 0.034 (0.77, .44) N/A

ER news - -0.70 (-3.94, .00) - -

AR (1) 0.16 (6.61, .00) 0.16 (6.58, .00) 0.02 (0.77, .44) 0.01 (0.52, 0.60)

AR (2) -0.06 (-2.40, .02) -0.05 (-2.34, .02) -0.04 (-1.48, .14) -0.03 (-1.06, .29)

Variance Equation

ARCH 0.173 (15.94, .00) 0.17 (16.09, .00) 0.09 (7.05, .00) 0.03 (5.16, .00)

GARCH 0.827 (76.21, .00) 0.83 (76.05, .00) 0.91 (71.73, .00) 0.97 (187.71, .00)

INTt 0.001 (4.64, .00) 0.001 (4.66, .00) 0.01 (2.60, .01) N/A

Summary Statistics

0.035 0.037 0.0002 0.0005

F 11.94 (.00) 11.12 (.00) 0.056 (.99) -

Observations 1824 1824 1822 1822

Counterfactual

21t t

21ln t

Pure float Jan 1, 1958-Dec 29, 1961

Fear of Floating Jan 5, 1951-Dec 29, 1957

Mean equation

Constant -0.003 (-1.145, .25) -0.003

AR(1) 0.056 (1.819, .07) 0.056

INTt N/A -0.0002 (-0.143, .89)

Conditional Volatility

Constant -0.458 (-5.942, .00) -0.458

0.374 (8.527, .00) 0.374

0.957 (73.938, .00) 0.957

INTt N/A 0.067 (6.055, .00)

Conclusions

A good deal of the 1950s in Canada was not a pure float There was a ‘fear of appreciations’

As a result both ER levels and volatility are affected

There are still other factors to consider Overall conduct of monetary policy