Finance Committee on Nov. 23rd, 2022

[The Chair, Liberal, Peter Fonseca]

I call this meeting to order.

Welcome to meeting number 68 of the House of Commons Standing Committee on Finance. Pursuant to Standing Order 108(2) and the motion adopted by the committee on Wednesday, November 16, 2022, the committee is meeting to discuss the report of the Bank of Canada on monetary policy.

Today's meeting is taking place in a hybrid format, pursuant to the House order of June 23, 2022. Members are attending in person in the room and remotely using the Zoom application.

I would like to make a few comments for the benefit of the witnesses and members. Please wait until I recognize you by name before speaking. For those participating by video conference, click on the microphone icon to activate your mike. Please mute yourself when you are not speaking.

For interpretation, for those on Zoom, you have the choice, at the bottom of your screen, of floor, English or French. For those in the room, you can use the earpiece and select the desired channel. All comments should be addressed through the chair. For members in the room, if you wish to speak, please raise your hand. For members on Zoom, please use the “raise hand” function. The clerk and I will manage the speaking order as well as we can. We appreciate your patience and understanding in this regard.

Members, just before we get to our witnesses, I will update you that we will have the Deputy Prime Minister and Minister of Finance, Chrystia Freeland, here this upcoming Monday.

I would now like to welcome our witnesses from the Bank of Canada: Tiff Macklem, Governor of the Bank of Canada, and Carolyn Rogers, senior deputy governor.

Welcome to both of you. We will hear your opening statements or remarks before we move to questions from members.

[Tiff Macklem, Governor, Bank of Canada]

Thank you, Chair.

It's a real pleasure to be back with Senior Deputy Governor Carolyn Rogers. We're here to discuss our monetary policy report and our most recent monetary policy decision.

In October, we raised the policy interest rate by 50 basis points to 3.75%. This is the sixth consecutive increase since March. We also expect that our policy interest rate will need to rise further; how much further will depend on how monetary policy is working to slow demand, how supply challenges are resolving and how inflation and inflation expectations are responding to this tightening cycle.

Last week's decision reflected several considerations.

First, inflation in Canada remains high and broad-based, reflecting large increases in both goods and services prices. Inflation has come down in recent months, but we have yet to see a generalized decline in price pressures.

Second, and related, the economy is still in excess demand—it’s overheated. Job vacancies have declined from their peak but remain high, and businesses continue to report widespread labour shortages.

Third, higher interest rates are beginning to weigh on growth. This is increasingly evident in interest-rate-sensitive parts of the economy, like housing and spending on big-ticket items. But the effects of higher rates will take time to spread through the economy.

Fourth, there are no easy outs to restoring price stability. We need the economy to slow down to rebalance demand and supply and relieve price pressures. We expect growth will stall in the next few quarters—in other words, growth will be close to zero. But once we get through this slowdown, growth will pick up, our economy will grow solidly, and Canada will once again benefit from low and predictable inflation.

To put this in numbers, growth in gross domestic product (GDP) is projected to decline from about 3¼% this year to just under 1% next year and then rise to 2% in 2024. And inflation is expected to hover around 7% in the final quarter of this year, fall to around 3% by the end of next year and return to the 2% target by the end of 2024.

Finally, we are trying to balance the risks of under- and over-tightening.

If we don't do enough, Canadians will continue to endure the hardship of high inflation and they will come to expect persistently high inflation, which will require much higher interest rates and potentially a severe recession to control inflation. Nobody wants that. If we do too much, we could slow the economy more than needed. We know that has harmful consequences for people's ability to service their debts, for their jobs and for their businesses.

This tightening phase will draw to a close. We're getting closer, but we're not there yet.

I also want to update you on the bank's balance sheet, which has been declining as a result of quantitative tightening. The balance sheet peaked in March 2021 at $575 billion. As of last week, it was about $415 billion, which is a decline of about 28%. The decline primarily reflects the maturity of our repo operations and the reduction in our holdings of Government of Canada bonds following the decisions to end quantitative easing in October 2021 and begin quantitative tightening last April.

After a period of above-average income, our net interest income is now turning negative. Following a period of losses, the Bank of Canada will return to positive net earnings. The size and duration of the losses will ultimately depend on a number of factors, which include, in particular, the path for interest rates, the evolution of the economy and the balance sheet. The losses do not affect our ability to conduct monetary policy. I would also stress that our policy decisions are driven by our price and financial stability mandates. We don't make policy to maximize our income.

The bank's job is to ensure that inflation is low, stable and predictable. We are still far from that goal. We view the risks around our forecast for inflation to be reasonably balanced, but with inflation so far above our target, we are particularly concerned about the upside risks.

We are mindful that adjusting to higher interest rates is difficult for many Canadians. Many households have significant debt loads and higher interest rates add to this burden. We don’t want this transition to be more difficult than it has to be, but higher interest rates in the short term will bring inflation down in the long term. Canadians are looking for ways to protect themselves from rising prices and we are working to protect them from entrenched inflation.

It will take time to get back to solid growth with low inflation, but we will get there. By working through this difficult phase, we will get back to price stability with sustained economic growth, which benefits everyone.

With that summary, the senior deputy governor and I would be very pleased to take your questions.

[The Chair, Liberal, Peter Fonseca]

Thank you, Governor Macklem and Senior Deputy Governor Rogers.

As you can see, we have a full house. We have many members eager to ask questions.

We're going to move into our first round. In that round, each party will have up to six minutes to ask questions.

We're starting with the Conservatives and MP Hallan for six minutes, please.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

Thank you, Chair.

Thank you to the governor and senior deputy governor for being here.

I'll get right into it.

In a speech on October 6, Governor, you told the Halifax Chamber of Commerce that “inflation in Canada increasingly reflects what's happening in Canada.” In the lead-up to that statement, Canada had already seen $110 billion added to the debt before COVID and half a trillion dollars in the past two years, 40% of which we know had nothing to do with COVID or anything COVID-related.

Now there is $52.2 billion in new spending this year according to the PBO. Would you agree that all this spending is going to add more to fuel this homegrown inflation?

[Tiff Macklem]

Well, let me say a couple of things.

First of all, you don't get to 8.1% inflation because of one thing. A whole number of things happened. As I discussed in Halifax, the initial push to inflation was largely from global factors, like higher goods prices and higher oil prices.

As you highlighted, increasingly the inflation we see in Canada reflects what is happening in Canada. Our economy is in excess demand. It is overheated. Essentially, businesses can't produce as many goods and services as consumers want to buy, so prices are going up.

Why is the economy in excess demand? We went through the deepest recession in history, which was followed by the fastest recovery ever. Now we're on the other side of that.

Yes, inflation is certainly too high and we are committed to restoring price stability.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

Considering that the fall economic statement and supplementary estimates (B) both contain even more government spending, and seeing as more spending is only going to drive up inflation, is the government counteracting the measures you and the bank are taking?

[Tiff Macklem]

With respect to government spending, those are your decisions as parliamentarians.

What we do at the Bank of Canada is take into account the federal and provincial governments' plans. We build those into our projections and that feeds into our forecast and outlook for inflation. That is an important input into the interest rates decisions that we take.

The outlook that I gave you and that we published in our monetary policy report a few weeks ago reflects the spending plans of the government.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

Governor, would you agree that you have to change your projections as there's more spending by the government?

[Tiff Macklem]

I would agree that we take those into account. There are many things going on in the economy. Governments' decisions are one of those things. We take those into account when we make our decisions.

When governments add to—

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

I'll give a small example. If there is $52.2 billion in new spending, would you agree that you would have to increase your rate again?

[Tiff Macklem]

It depends on what else is happening in the economy.

Other things being equal, as economists like to say, the more demand.... First of all, government actions can have both demand and supply consequences. For example, the government has increased the target for the number of immigrants coming into the country. That's going to add supply. It's going to add workers. It's going to add new Canadians. It's also going to add demand because they're going to need housing. They're going to get incomes and they're going to spend them. We are going to take both of those into account.

Yes, other things being equal, the more demand there is in the economy, the higher the interest rates would have to be to bring inflation back to target.

Government policies have a range of effects, and we do our best to take those into account. We have a clear mandate and we make our policy decisions in pursuit of our mandate.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

Changing gears, at a previous appearance at this committee, you noted that the carbon tax is inflationary and adds to homegrown inflation. The government will be increasing that on April 1, 2023 and it eventually will triple it to $170 per tonne by 2030.

How will the increase in the tax increase its impact on inflation?

[Tiff Macklem]

I don't have the number of the chart, but in our monetary policy report there is a chart with our outlook for inflation. In that, we break out the various pieces.

One piece is the increase in the carbon tax and, as you're well aware, there are a series of increases in the carbon tax. Roughly speaking, they add 0.1% to inflation in each of the years going forward in our forecast.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

It would be inflationary, the higher it goes.

[Tiff Macklem]

It will add 0.1%.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

Yes, but it is inflationary, in your opinion.

[Tiff Macklem]

It is adding 0.1%.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

According to Statistics Canada, Canadians' debt-to-disposable income ratio is now 184%. As Canadians run out of money, you are continuing to raise interest rates as a result of homegrown inflation. One in five Canadians is skipping meals or cutting back on food. Almost 50% of Canadians say their finances are worse than a year ago. Half of variable mortgage holders have hit the trigger rate.

How many Canadians will have to default on loans, miss mortgage payments or not be able to buy groceries before the bank considers the interest rate to be too high?

[Tiff Macklem]

I would highlight that we are acutely aware that high inflation is making life very difficult for Canadians.

As you highlighted, Canadians have been surprised by this rapid rise in their cost of living. Many Canadians are finding it very difficult to stretch their paycheques to cover their bills.

[Jasraj Singh Hallan, Conservative, Calgary Forest Lawn, AB]

What would be the trigger rate, in your opinion?

[The Chair, Liberal, Peter Fonseca]

That is the time, MP Hallan. Thank you.

We are moving to the Liberals.

MP Dzerowicz, you have six minutes, please.

[Julie Dzerowicz, Liberal, Davenport, ON]

Thank you so much, Mr. Chair.

I want to thank you, Governor and Deputy Governor, for being here today. Thanks for your outstanding work during these unprecedented times.

You talked a little bit about this during your remarks at the front end. I want to talk to you about negative equity position. The Bank of Canada undertook extraordinary measures during the pandemic to put a floor under the Canadian economy and protect people and businesses. Some of these measures have arguably led to the potential of the bank entering a negative equity position very soon.

What is your reaction to the concerns that have been raised in the press recently?

[Tiff Macklem]

I'll turn to the senior deputy to respond to this in more detail, but as I underlined in my opening remarks, yes, we are, as a result of the actions we took.... We undertook quantitative easing in the first part of the crisis. That created extra income for the Bank of Canada. Now, as interest rates increase, we are starting to incur net interest rate losses.

There are various solutions to that problem. The senior deputy governor will say a word about that in a second. I want to stress that whatever solution is chosen, it's not going to affect how we run monetary policy. As a central bank, we are a going concern. We have liquidity. We will continue to run monetary policy guided by our mandate. We do not run monetary policy to maximize our income. Low inflation is a public good. We run monetary policy to deliver low, stable inflation. Obviously, it will have some impacts on our balance sheet. Those are largely accounting issues.

I will turn to the senior deputy governor, who is a CPA, to talk about those issues.

[Carolyn Rogers, Senior Deputy Governor, Bank of Canada]

Yes, as the governor said, we actually expect that the bank will show negative equity in the coming months. This isn't a problem that's unique to the Bank of Canada. All of our peer central banks in G7 countries are experiencing the same thing.

There are a variety of different options in how to deal with it, though. For example, our peer central bank in the U.S. uses U.S. GAAP accounting standards. They will take the negative equity and turn it into a deferred asset, and then they will run that deferred asset down over time as earnings turn positive again.

At other central banks, the governments have put an indemnity in place that offsets the negative equity. The Bank of Canada has an indemnity in place right now, but that indemnity covers what we call market losses. Those losses would occur if we were to sell assets. We're not planning to do that. These are operating losses. Another option would be to extend the range of that indemnity.

A third option would be to change the legislation, which would allow the bank to retain its earnings. Right now the Bank of Canada is required, under legislation, to return its earnings to the government each year. In a normal year, that would be about $1 billion in earnings. Over the last several years, we've returned an additional $2.6 billion to government. A third option would require a change to our act to allow us to retain our earnings, and then over time those would offset the losses. When we are back into a positive position, we would go back to returning our revenue to the government each year.

This is a decision for government. They're actively working on it right now. We expect that in the coming future they will make a final decision.

[Julie Dzerowicz, Liberal, Davenport, ON]

Okay. Thank you so much. I wanted to make sure we gave you the time to explain that—