OTTAWA (Reuters) - While still dealing with one economic crisis, Bank of Canada Governor David Dodge warned in an interview with Reuters on Wednesday of the need to heed market signals to avoid another.
Dodge, reflecting on his seven years at the helm of Canada's central bank, said that if necessary market adjustments are not made on a timely basis then the pain from forced adjustments later will be much greater.
He suggested this year's liquidity crisis in money markets could have been less severe if central banks had raised interest rates earlier to counter the easy credit stemming from growth in asset-backed securities markets and in the U.S. subprime mortgage market.
Dodge also cited the need to reduce global economic imbalances, particularly between Asian nations and major Arab oil exporters on the one hand and the United States on the other.
"There is more of a correction to come," Dodge said of the U.S. dollar. "The main correction has got to be from across the Pacific."
For much of his tenure, which ends at the end of January, he has argued that it was not sustainable for the United States to be "a consumer of last resort globally" and run persistently high current account deficits.
The Canadian economy is heavily dependent on U.S. demand but far from being alarmed by the prospects of lower U.S. growth, Dodge said it was necessary.
"The fact that demand in the U.S. is slowing is actually generally helpful. Now, what you always hope is that it slows in a rather smooth way and doesn't fall off a cliff," the pipe-smoking governor said.
He also said that one could argue that global growth around 5 percent is not sustainable without inflationary consequences.
"So some slowing of global growth below 5 percent is probably a good thing, and a greater proportion of that slowing should be in the United States," said Dodge, sitting at a large table in the Bank of Canada building, with a view of the Parliament Buildings as a backdrop.
He singled out China, Saudi Arabia and other rich Gulf Arab oil exporters as hampering the efficient working of markets, which he said would be to their peril, and that of the global economy, because they do not allow freely floating currencies.
"The main set of exchange rates that appear out of whack are Asia versus North America and Europe. So some appreciation of the Asian currencies versus the U.S. dollar, we would maintain, is not just in the global interest but is in Asia's interest as they deal with inflationary problems," he said.
He said central bank governors and finance ministers meeting in South Africa last month concluded that the Canadian dollar and other floating currencies had borne a disproportionate share of the adjustment of the U.S. dollar.
"There was absolutely no economic reason from Canada's point of view to see this dramatic move we saw during the course of the latter part of October and November," he said.
The Canadian dollar rose to a modern high above US$1.10 at one stage on November 7. The currency is now worth 98.63 U.S. cents, or $1.0139 per Canadian dollar. Anywhere around the mid- or perhaps upper-90-U.S. cent level is consistent with the central bank's model, Dodge said.
Before the summer credit crunch, he had argued that markets were not pricing riskier assets appropriately, and he said on Wednesday that one lesson of the crisis was that investors had to "do their own bloody homework before they get into things."
Dodge, who has won market recognition for his candor, was speaking on a day when his bank acted in concert with the U.S. Federal Reserve, the Bank of England, the European Central Bank and the Swiss National Bank to provide special short-term funding to mitigate lingering money market shortages.
Investors will still "take their losses," he said.
"But the market has to function. It is the responsibility, at least partially the responsibility, of the central bank to ensure that markets continue to function," he said. "They may function at a very different prices, but it's very important that they continue to function."
Dodge said he planned an extended sailing expedition with his wife when he steps down at the end of January.