Finance Committee on April 25th, 2022

[Carolyn Rogers]

Low interest rates were here for a long time.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

I'm hearing anecdotally that we're already starting to see house prices drop in Vancouver. We're also starting to see restaurants changing their menus to reflect higher costs. As they don't know what inflation will look like, they're raising them quite high. It's the same with even a barber shop. Someone told me that their barber raised the cost of a haircut by $15, and I wouldn't say that's an area subject to inflation.

Mr. Governor, when we look at the fact that there are critics at the bank saying that you should have been moving things a year ago to start building up a slow and steady nature, what do you say to those critics, given the fact that you can't raise rates because of the heavy indebtedness of Canadians?

[Tiff Macklem]

It's easy to forget that Canadians have been through a lot in the last couple of years. Two years ago, our economy was 15% below its prepandemic level. Unemployment was at 13.4%. The combination of monetary and fiscal policies and very effective vaccines has resulted in a very impressive recovery, in fact, the strongest recovery on record.

The fact that we now need to raise interest rates reasonably quickly and that inflation is too high is not because our policy response failed; it's because it was very effective.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

In that case, Governor, what was the biggest mistake?

[The Chair, Liberal, Peter Fonseca]

Mr. Albas, it's time. We're at six minutes. We've gone one minute over already.

[Tiff Macklem]

Can I respond to the mistake?

[The Chair, Liberal, Peter Fonseca]

You can respond quickly, please.

Thank you, Governor.

[Tiff Macklem]

As I said to previous questions, I think we got a lot of things right. We did get some things wrong. We have been surprised, in particular, by the persistence and the pervasiveness of the supply shocks. The supply shocks were very focused on very specific things such as computer chips. What we have seen since then is that they have broadened. They're really affecting all goods.

Yes, our inflation outlook is higher. It's higher for longer. It does take some time for monetary policy to work through the system and bring inflation back to target. That's why we are moving relatively quickly to normalize monetary policy, keep inflation expectations well anchored, and bring balance between demand and supply in the economy.

[The Chair, Liberal, Peter Fonseca]

Thank you, Governor.

Thank you, MP Albas.

Members, I do try to find the most natural transition where we can go from one member's questions to the next member. We did go a couple of minutes over.

We are moving to the Liberals and to MP Chatel for five minutes.

[Sophie Chatel, Liberal, Pontiac, QC]

Thank you, Governor and Senior Deputy Governor.

I have a few questions about the causes of inflation. Clearly, some would prefer to oversimplify a problem as complex as inflation, but as you made clear, inflation is a global phenomenon. I had a look at the latest figures, and Canada's inflation rate of 6.7% is nevertheless below the OECD average of 7.7%, the G20 average of 6.8% and the euro zone average of 7.3%.

I want to commend you. In your recent monetary policy report, you do an excellent job of summarizing the domestic and global determinants of inflation, specifically in box 4 on page 17. Now, no one can oversimplify the causes of inflation, with the very clear overview you have provided.

In particular, you mention homeowners' replacement costs. The committee actually studied inflation in the housing sector, among other things.

Can you talk more about that?

[Tiff Macklem]

Yes, of course.

First, I would say that, in Canada, inflation is slightly below the average in other countries, but Canadians feel it is too high, and clearly, we need to control inflation.

As for housing prices, what we have seen is a significant year-over-year increase of about 25%.

That factors into the consumer price index, or CPI, but not on a one-for-one basis. With the CPI, the idea is to measure the cost of the service being received, in other words, the house or dwelling. However, the cost of the service, to replace or improve the home, is based on the measure used for new homes. It is part of the CPI but does not have a direct impact.

If we look at the cost of housing within the CPI, we see clearly that it is rising sharply, and that reflects pressures here, in Canada. They are domestic excess demand pressures, not international pressures.

[Sophie Chatel, Liberal, Pontiac, QC]

Thank you.

By including the information in the monetary policy report, you've opened the door to better policy-making, and that will help us address the problem of inflation.

Thank you for your work.

You said earlier that it's important not to overheat the economy, and not to overcool it either, and that's a thin balance. How do you weigh the trade-off between the risk of inflation and a possible recession? That's what's at stake here.

[Tiff Macklem]

As I said, our own forecast has growth slowing, but remaining quite solid with inflation coming down, so we do think.... Even if growth is a little weaker than in our projection, there's still some room for it to be a little weaker and be positive. We do think there is a way forward with inflation coming down and reasonably solid growth.

As I said, it's going to be delicate; that's why we take the decisions one at a time. If the economy starts slowing faster than we expect, if inflation starts to come down faster than we expect, we do need to get rates.... Rates are still very low. We do need to get them up closer to neutral, but if the economy starts to moderate more quickly, it could be appropriate to pause and reassess for a bit.

I would stress that at the end of the day, our mandate is to control inflation. Getting that soft landing is how you control inflation. We want inflation to come down to target; we don't want it to go below the target, so that's what we're focused on doing. We are going to use our tools, and we're prepared to use them forcefully if needed to bring inflation back to target.

[The Chair, Liberal, Peter Fonseca]

Thank you.

Members, we are moving into our third round of questions.

We have the Conservatives up first with MP Stewart for five minutes.

[Jake Stewart, Conservative, Miramichi—Grand Lake, NB]

Thank you, Mr. Chair.

Thank you for being here.

You mentioned earlier that you got some things right and some things wrong. Could you explain exactly what you got wrong?

[Tiff Macklem]

If you go back to our January report, we were expecting inflation to peak at around 5%. We were expecting that by this point we would be starting to see some early signs that inflation would be starting to turn. The latest March CPI number at 6.7% is obviously well above 5%.

The other thing that is even more significant from our perspective is that for the outlook for inflation, the track is higher. If you go back to January, we thought we'd be around the top of our 1% to 3% control range by the time we got to the end of this year. We now think we'll probably be 4% and something around the end of this year.

It's not just that it's gone up, but it's going to be up for longer. It's going to take longer to come down.

That's the sense in which we have been surprised by the persistence and pervasiveness of these supply shocks. We've obviously been surprised by the unprovoked attack of Ukraine. These things are not going to work.... The war is ongoing. I don't know when that war is going to end. For the sake of everybody, I hope it ends very soon, but it's further disrupting supply chains. Outbreaks of COVID in China are going to further disrupt the supply chain.

It's going to last longer and there is some uncertainty. What there isn't any uncertainty about is the Bank of Canada's resolve to use its tools to bring inflation back to target. We are responding where we have been surprised. That's really the value of having a clear mandate.

[Jake Stewart, Conservative, Miramichi—Grand Lake, NB]

Thank you.

A few years back, the central banks and you, yourself, predicted deflation. I forget your exact wording, but it was just a prediction on deflation.

Could you explain that prediction and the result of it?

[Tiff Macklem]

Two years ago I wasn't the governor. Two years ago and through the early part of the pandemic, the economy suffered its biggest collapse in history. GDP plummeted 15%. The unemployment rate shot up from 5.7% to 13.4%. Roughly three million Canadians were out of work and more than another three million Canadians were working less than 50% of their hours.

This was a situation where there was a serious risk of deflation. There was a huge amount of excess supply in the economy. Many Canadians were not working and if there hadn't been a really concerted policy response, there would have been a real risk of deflation.

Why is deflation so damaging? When a deflationary mindset sets in, people think prices are going to fall and their tendency is to wait and buy things later when prices are lower. Things are already really weak, so when people decide to wait and buy things when prices are lower, that just weakens the economy further. In an economy that has a relatively high level of household indebtedness and a mortgage payment is a fixed nominal value, getting less income makes those payments become more dangerous.

Those comments were very much in the context of an economy that was in danger of deflation. We were not predicting inflation. We took bold action to, first of all, put a floor under the decline and then support the recovery. We weren't predicting deflation, but we were indicating that were we not to take bold action, that could very well be what would happen.

We saw from the Great Depression.... Why is it called the Great Depression? There was a big decline and then a very prolonged period of an incredibly weak economy. A lot of people suffered as a result.

[The Chair, Liberal, Peter Fonseca]

Thank you, MP Stewart.

Now we'll go the Liberals and MP MacDonald, for five minutes, please.

[Heath MacDonald, Liberal, Malpeque, PE]

Thank you, Chair.

Thank you to the governors for being here again today. It's always an interesting discussion.

It's good to hear. I asked questions before, relative to quantitative tightening, normalizing your balance sheet and how quickly you can do that without having too much negative effect on the economy.

I want to go back to the market certainty, or let's say, signalling effect. You talked about it briefly with my colleague MP Albas. In signalling interest rate hikes, what does that do to the markets? Can you just give us a little more overview on how that affects inflation?

[Tiff Macklem]

Yes. The first point I'd make is that the most important audience is Canadians. One thing we've learned is that monetary policy works better when people understand it. Also, when people understand monetary policy, they understand our objectives, they understand our tools and they tend to have more confidence in monetary policy. Our business, at the end of the day, is confidence in the value of money, so confidence is paramount. In explaining to Canadians what we're doing, why we're doing it and what they should expect, that's important so they can hold us accountable and this committee can hold us accountable. Canadians and this committee should hold us accountable. It also, though, helps monetary policy actually work.

With respect to markets, markets have an insatiable appetite for as much certainty as we can give them, and where we have reasonable conviction about the direction, we will give it. Where we think we need to be more humble, we will indicate that we need to be more humble. Markets will read our monetary policy report with interest, they'll certainly listen to our statements, and they'll come to their own conclusions.

Monetary policy works through markets. It is important that markets understand what we're thinking, and in particular, what we're looking at. That's one of the reasons we put out a fairly detailed forecast. We put out our outlook, and as data comes in, the market can see whether it is coming in stronger than the bank said or weaker than the bank said. Then they can come to their own conclusions.

[Heath MacDonald, Liberal, Malpeque, PE]

Thank you.

How does Canada preserve our low debt position going forward?

[Tiff Macklem]

Questions of fiscal policy are really for the government and ultimately for Parliament to decide on. Canada is in a relatively good position relative to at least the rest of the G7.

How do you preserve it? Well, don't spend too much relative to your revenues.

[Heath MacDonald, Liberal, Malpeque, PE]

Thank you.

I struggle with, recently, seeing provinces across the country coming in in the black and everyone knows we're talking about inflation at the federal level and we're talking about surpluses or provinces being in extremely good shape. I often wonder how you provide an economic outlook based on those factors to society in general, to the layman.

[Tiff Macklem]

There are a couple of points there. First of all, governments have a range of priorities. They have economic priorities, they have social priorities, they have health priorities, education, security and defence. There are many priorities and you have hard jobs. At the Bank of Canada, we have one job, and that is to control inflation. What we do is take announced provincial and federal budgets as given and we put those into our models. We put that in with everything else, with the dynamics of the U.S. economy, with commodity prices, with other factors, and we update our projections. Those are useful inputs. Those are important inputs into the decisions we take to deliver on our mandate.