The central bank likes to keep inflation between 1 and 3 percent, but rates of 3.1 percent in June, 3.6 percent in May, and 3.4 percent in April exceeded those targets. On July 29, the Financial Post published an op-ed by Bank of Canada Governor Tiff Macklem in which he acknowledged the “prices of many goods and services are rising quickly.”
Macklem stressed that many prices have been playing catch-up after plunging amid the pandemic, meaning higher-than-normal inflation at this time would bring Canada back on course. He also said a global shortage of computer chips caused by the pandemic has made new cars and many electronics more expensive. But these and other factors that led to increased prices are unlikely to last, he said, noting that high lumber prices, driven by strong housing demand, have already dropped sharply, and that sharp price movements could repeat themselves for other products over the coming months as more normal activities resume.
C.D. Howe economist Steve Ambler said the very fact Macklem wrote the op-ed was a rare move.
“The bank is aware of how people are looking at the inflation numbers. They’re worried about how persistent they might be and they’re worried about the effect that might have on inflation expectations, [so] they went to the trouble of trying to calm things down,” Ambler said in an interview.
“There are sectors where supply is still constrained by supply chain problems. As we know, with fixed supply if demand has increased, prices are going to go up. … As well, there’s a significant amount of reallocation of labour going on because young people have shifted their demand from some things to other things.”
Macklem gave the example of people buying more goods like bicycles because social distancing requirements made certain services like gyms harder to access or unavailable.
Ambler, a Montreal resident, said he received a recumbent bicycle he ordered in March after months of waiting. He said public health orders restricted many options, resulting in an increased cycling trend where he lives. Now, he says, his city’s venues are hopping with activity and residential real estate is snatched up quickly and selling above asking prices.
Expectations for 2022
Macklem said that inflation should move back inside the target range next year and that the bank is committed to keeping interest rates as low as possible until the economy fully heals, which he forecasts to be around the second half of 2022.
Keeping rates low until then will allow more people to be able to borrow and have more money to spend, helping the economy recover and grow.
In fact, now more than ever, Canadians have money to spend due to pandemic restrictions and government support payments, Ambler notes.
“People who were lucky enough to keep their jobs during the pandemic … we had a lot less stuff [to spend money on than what] we used to spend money on, so the savings rate went through the roof,” he said. “And then people who lost their jobs managed to get some of the generous federal government income support payments.”
Households saved 3.6 percent of their income before the pandemic started, a number that rose to 28.2 percent last summer and currently sits at 13.1 percent.
A resulting growth in consumer spending would contribute to inflation, but once the economy recovers and the central bank increases interest rates, the corresponding rise in borrowing costs will encourage savings and limit spending growth. Then, as consumer demand drops, inflation will decrease.
However, despite Macklem’s assurances, Ambler said he wouldn’t be surprised if interest rates rose in the first half of 2022, though an increase in 2021 would indeed be a surprise.
Macdonald-Laurier Institute senior policy fellow Philip Cross said an interest rate adjustment and lower government transfers to families will certainly curb inflation when the time is right.
“I don’t think we’re in for a decade like the ’70s where we had steadily accelerated inflation over a 10-year period. I just can’t imagine central banks ever allowing that to come back,” Cross said in an interview.
“That allows you to bring your housing market … under control. But also, it’ll force the cost of borrowing way up for government. And that will force government [spending] demand to contract.”
Affecting People’s Lives
Macklem said the Bank of Canada has heard from Canadians that “rising prices make it hard to pay all their bills. And we heard from people who feel the consumer price index (CPI) doesn’t always reflect their experience with inflation.”
On July 21, Statistics Canada announced it was adapting to the evolving retail landscape by adjusting the basket of goods and services it uses to measure price change over time. It added hand sanitizer, gaming consoles, disinfecting wipes, electric vehicles, food delivery services, and face masks to the CPI basket. It also updated the relative importance of the eight major components in the basket, of which shelter, food, and transportation are the top three in terms of average household expenditures in 2020.
According to the June CPI, shelter (+4.4 percent) and transportation (+5.6 percent) prices contributed the most to year-over-year inflationary costs. Gasoline was up 32 percent year-over-year, and were it removed from June’s CPI, inflation would be just 2.2 percent instead of 3.1.
Cross said western droughts will push up commodity prices, but an increase in service sector wages would be a greater sign of lasting inflationary pressures.
“This isn’t something abstract—this is something that is already affecting people’s lives, every time they search for a house, every time they fill up their cars, so people have every right to be concerned. And quite properly, the Bank of Canada is worried about this,” Cross said.
“They may have to raise rates faster than they are planning to today,” he adds. “If we start to see these increases in housing prices, commodity prices, if that starts to filter into wages and into services prices, they’re going to have to move earlier.”