Finance Committee on April 18th, 2023

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Thank you, Mr. Chair.

Governor, I was happy to catch an interview with Derek Holt on the weekend on CTV, and he said something interesting that I hadn't heard an economist say before. I'll just read it to you. He said government spending is “heavily going towards inflation” and that “we've increased annual federal government spending by about $105 billion per year compared to what was the case in the fiscal year just before the pandemic struck, and that's going up to about $170 billion per year more, five years out from now, than what governments were spending before the pandemic. And we know that's contributing to inflation.” He then said, “It probably accounts for at least a percentage point worth of the Bank of Canada's rate hikes, probably more than that.”

Would you agree with that statement?

[Tiff Macklem]

Well, our own analysis.... No, I don't agree with that entire statement.

Look, government spending is contributing to growth; there's no question about that. It's running roughly in line with potential growth in the economy—2% to 2.5%. The potential is 2%, so it's slightly on the high side of that. However, to the extent that we can measure these things well, it's roughly in line with potential. In that sense, it's not contributing to the slowdown in growth that we're seeing. It's not relieving inflationary—

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Yes, you made that argument earlier.

[Tiff Macklem]

—pressures, but it's not preventing inflation from coming down.

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Governor, I was going to ask about that argument next, but you made it earlier, so pardon me for interrupting. My time is limited.

Essentially, what you're saying now is that, well, government spending isn't making the problem any worse right now, but it's not making it any better. It seems to me that fiscal and monetary policies should work together. In our last discussion, you said you had assurances that the government wasn't planning on working at cross-purposes with you. Now we have credible economists like Mr. Holt saying that government spending has directly contributed to high interest rates.

You said that while inflation is coming down, it's not job done. I think you said in your statement that it's not job done and that interest rates could go up even higher.

I'll ask you this again. You keep saying that fiscal policy isn't your responsibility, but it affects your job. You must have an opinion on it.

[Tiff Macklem]

It affects our job. We take—

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Does government spending have an effect on interest rates?

[Tiff Macklem]

It affects our job—

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Does it affect interest rates?

[Tiff Macklem]

—and we take it into account and we do our job.

There are a couple of things I can say, I think, looking ahead, in terms of what is on our mind.

A number of governments across the country have taken various measures to protect Canadians from the effects of high inflation. On that front, I think the advice of the IMF is quite sensible—that those programs should be targeted and temporary.

What do I mean by targeted? I mean targeted on the most vulnerable people. Those are the people who are being most affected by inflation. In terms of “temporary”, as we've said, inflation is coming down. When inflation comes down, we won't need those anymore. I would sign on to that bit of advice—

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

I'm sorry, Governor. I'm just trying to get at one thing. Really what I'm interested in knowing is this: Has government spending, which has been established as being inflationary, impacted the bank's interest rate? Is it higher than it would have been if not for profligate government spending?

That should be a fairly straightforward question for an economist to answer.

[Tiff Macklem]

Look, it's Economics 100 that if consumption was stronger, if government spending was stronger, if investment was stronger and if net exports were stronger, there would be more growth in the economy, there would be more inflationary pressures, there would be more inflation and interest rates would need to be higher to bring it down, and you can say all those things in reverse. Yes, government spending feeds into our projection. I've outlined how it's fed in and I've outlined what we think the net effect is.

I will say, in closing, that with government spending running broadly in line with potential output, it is going to be important.... If government spending starts to run or increases further and runs well ahead of potential output, then it would be boosting the economy above its trend growth, and that would make it harder to get inflation down. That would be a problem.

[The Chair, Liberal, Peter Fonseca]

You can ask one last question.

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

I still have a few seconds left.

I'll go to a different topic that has to do with the amount of daylight between the American overnight rate and the Canadian overnight rate. I know you've said inflation is coming down, and you reserve the right to increase interest rates, of course, but if there's too much space between the Canadian rate and the American rate, that can become inflationary in and of itself. It would affect the exchange rate between Canada and the U.S.

How do you deal with that? Are you concerned that you could be forced into a situation where you have to increase interest rates further just because the Americans do?

[The Chair, Liberal, Peter Fonseca]

Give a short answer, please.

[Tiff Macklem]

I'll do my best.

The first thing is that the advantage of having our own monetary policy in Canada is that we can gear monetary policy in Canada to what's going on in Canada. The flexible exchange rate is the thing that allows us to have our own monetary policy geared for the situation in Canada. Inflation in Canada is a little lower than it is in the United States. We've not had to raise rates as high as they have.

Yes, that does have some implications for the exchange rate. The market, I think, has digested that rate differential quite well. I think the market is expecting a rate differential going forward. To a large extent, that's already built into the exchange rate, though on the margin, if the exchange rate does weaken, going forward, that will create more imported inflation. It's something we need to look at in our own setting of interest rates.

[Marty Morantz, Conservative, Charleswood—St. James—Assiniboia—Headingley, MB]

Thank you.

[The Chair, Liberal, Peter Fonseca]

Thank you, MP Morantz.

Now it's over to MP Chatel to finish off this round.

[Sophie Chatel, Liberal, Pontiac, QC]

Thank you, Mr. Chair.

Governor, thank you for being with us today. I congratulate you on your excellent work. The Bank of Canada is a really important institution. Its independence is highly valued. As we can see, your policies are starting to pay off.

I'll go back to what my colleague was saying earlier, as I would also like to understand Canada's economic resilience. I recently looked at the International Monetary Fund's report, which makes economic predictions for a number of countries. It notes that Canada, once again, will do better than expected relative to comparable countries.

You agreed with my colleague, but without explaining what makes us somewhat unique in this situation. What are the contributing factors? Is it the fact that we attract talent, or is it our natural resources, the stability of our economy or our AAA credit rating?

What explains us doing better than other countries?

[Tiff Macklem]

I came back last week from attending IMF meetings. You're right, its forecast for Canada is close to ours, if not a little higher. They are forecasting a 1.5% growth rate for this year and next, which is a little higher than our forecast.

As for factors, I think you highlighted several that are important. We have a diversified economy, which includes a manufacturing sector, a service sector, as well as commodities. We have a very well-educated and talented population. Our workforce growth rate is higher than in a number of other G7 countries, as we have more immigration here than many other countries do.

We do have more advantages. That said, it's always good to use your advantages while addressing your weaknesses.

[Sophie Chatel, Liberal, Pontiac, QC]

Thank you.

You have said on other occasions that financial systems, world banking systems, are under stress. Some constituents in my riding are concerned about this. We see what is happening in the international banking system, particularly in the United States, and we wonder what impact that may have on the Canadian banking system. We know that we have good institutions and that they are sound. But we are facing a number of crises, so I'd like to know what your thoughts on this are.

[Tiff Macklem]

The impact of the problems in the United States and Switzerland is minimal here in Canada. As I said earlier—I think it was in response to a question from Mr. Ste‑Marie—our domestic banking system is sound. During the global financial crisis of 2008‑2009, there were no bankruptcies among Canadian banks. In fact, the system is even stronger than it was, as capital and liquidity have increased further since then.

So it can be said that the system is stable and strong in Canada. It is still important for banks to manage risk. It is also important to have a good oversight system here in Canada. That should be maintained. In the U.S. and Switzerland, the response of the authorities was very quick and quite strong, which had the effect of stabilizing the global system. Other events are always possible, which is why it is important that we be prepared.

[The Chair, Liberal, Peter Fonseca]

Thank you, MP Chatel. You have a few seconds if you want to make one comment, and then we'll move on to our final round.

Go ahead.

[Sophie Chatel, Liberal, Pontiac, QC]

I will just quickly say that we hear a lot about how spending may create inflation if we give money to people who need it. To me, cutting taxes is the same. It's just an indirect way to give more money to people, especially if they're upper class. Then of course it's more money for consuming, and that creates inflation as well.

[The Chair, Liberal, Peter Fonseca]

Thank you again, MP Chatel.

Members, I'm just looking at the time, as we do in this committee. We don't have time for a full round, so we're going to divide the time up amongst all parties. We'll start with the Conservatives, and you'll have up to five or six minutes. You can also divvy up that time amongst yourselves.