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OTTAWA (Reuters) - Last week's Bank of Canada interest rate cut, and its promise to keep the rate low through mid-2010, has already improved credit conditions and will stimulate the economy, Governor Mark Carney said on Tuesday.
In a move that took markets by surprise, the central bank cut its overnight target rate to a record low of 0.25 percent on April 21 and said that, conditional on inflation, it would hold it at that level until the end of June next year.
"We did see an important move in interest rates farther out the yield curve as a result of that commitment which should provide considerable additional stimulus to the economy," Carney told a parliamentary finance committee.
Carney said corporate and government bond yields as a whole fell substantially after the Bank of Canada announcement, and the spread between Canadian and U.S. bonds "shifted by 19 basis points in our favor."
"The impact of our decision last week was to improve financial conditions," he said.
Lawmakers from the governing Conservatives as well as opposition Liberals supported the bank's unusually explicit commitment on rates.
After the rate cut the bank provided a framework for unconventional measures it could also take, if needed. These include quantitative easing, or printing money through buying securities in the market, and credit easing, which involves rescuing targeted private-sector credit markets.
But it provided few details on what assets it might target or how much it would allocate, leaving market players hungry for more details.
Asked how the central bank would choose which securities to buy without favoring some sectors over others, Carney and Senior Deputy Governor Paul Jenkins promised to make any purchases in as neutral a way as possible.
"There are techniques that can be used to achieve a neutral effect. For example, one could buy the indexes," Jenkins told the House of Commons finance committee.
The bank would also choose bonds with a variety of maturity dates to facilitate a gradual unwinding of its program when the economy recovers or inflation reappears as a threat.
Carney said inflationary pressures could return faster than expected in a severe recession.
"The reality is -- it's an unfortunate reality -- but in this adjustment process capacity is lost, investment is delayed, productivity is slower than it otherwise would be and so those inflationary pressures could come back sooner than otherwise (expected)," he said.
The Bank of Canada sets monetary policy with the aim of keeping inflation at around 2 percent.
Additional reporting by David Ljunggren and Randall Palmer; editing by Janet Guttsman