THE STANDING SENATE COMMITTEE ON BANKING, COMMERCE AND THE ECONOMY
EVIDENCE
OTTAWA, Wednesday, November 1, 2023
The Standing Senate Committee on Banking, Commerce and the Economy met with videoconference this day at 4:15 p.m. [ET] to study matters relating to banking, trade and commerce generally.
Senator Pamela Wallin (Chair) in the chair.
[English]
The Chair: Senators, hello to everyone and welcome to this meeting of the Standing Senate Committee on Banking, Commerce and the Economy.
My name is Pamela Wallin. I serve as the chair of this committee.
I would like to introduce the members of the committee beginning with the deputy chair, Senator Loffreda; Senator Bellemare; Senator C. Deacon; Senator Gignac; Senator Marshall; Senator Miville-Dechêne; Senator Petten; Senator Galvez.
Thank you very much. We have the pleasure of welcoming back Tiff Macklem, Governor, Bank of Canada and as always along with him Carolyn Rogers, Senior Deputy Governor, Bank of Canada. Welcome to both of you.
We are pleased to have you here to update us on the monetary policy report for October 2023. It is not like there is anything newsworthy in there that we would need to talk about. We’ll turn the floor over to you and, Governor Macklem, we’ll begin with your opening remarks.
Tiff Macklem, Governor, Bank of Canada: Thank you, Senator Wallin. Good afternoon to everyone on the committee. I’m pleased to be here with Carolyn Rogers, Senior Deputy Governor, Bank of Canada to discuss our Monetary Policy Report and last week’s monetary policy decision.
Last week we maintained our policy interest rate at 5%.
We held our policy rate steady because monetary policy is working to cool the economy and relieve price pressures. We want to give time to do its job. Further easing in inflation is likely to be slow and inflationary risks have increased.
Before I take your questions, let me give you some economic and financial context for our decision.
[Translation]
Since the last time we were here with you, the Canadian economy has slowed, and the data suggests demand and supply are now approaching balance. We’re now seeing clearer evidence that higher interest rates are moderating spending and relieving price pressures. The economy has entered a period of weaker growth, averaging about 1% over the last year. Growth is forecast to remain below 1% before picking up in late 2024 and rising to 2.5% in 2025.
With the economy expected to move into excess supply this year and with growth anticipated to be weak for the next few quarters, we expect inflation to continue to ease gradually and return to our 2% target in 2025. Higher energy prices and persistence in underlying inflation could slow progress.
The effects of higher interest rates on inflation are most evident in the prices of durable goods, like furniture and appliances that people often buy on credit. These effects have also spread to many semi-durable goods, such as clothing, footwear and many services excluding shelter. Inflation in these categories is now running generally at or below 2%. Price increases for groceries, while still elevated at almost 6%, have also eased and are expected to moderate further.
A number of factors are getting in the way of low inflation. Higher global energy prices are increasing prices at the pump, and that is pushing headline inflation back up. Structural supply shortages in our housing market are boosting prices for shelter. In addition, near-term inflation expectations and wage growth remain elevated, and corporate pricing behaviour is normalizing slowly.
[English]
The combined impact of all these pressures on inflation is that it’s now expected to be about 3.5% through to about the middle of next year. As excess supply in the economy increases, inflation should ease in 2024 and reach 2% in 2025.
Overall inflationary risks have increased since July. The forecast we released last week has inflation on a higher path than we expected last summer. In addition, rising global tensions, particularly the war in Israel and Gaza, have increased the risk that energy prices could move higher and supply chains could be disrupted again, pushing inflation up around the world.
With clearer evidence that monetary policy is working my colleagues and I on the bank’s governing council judged last week that we could be patient and hold the policy interest rate at 5%.
However, to be confident that our policy rate is high enough to get inflation back to 2%, we need to see more easing in core inflation. We will continue to assess whether monetary policy is sufficiently restrictive to restore price stability, and we will monitor the risks closely.
Our decision last week also reflected our best efforts to balance the risks of over and under tightening. We don’t want to cool the economy more than necessary, but we don’t want Canadians to have to continue to live with elevated inflation either, and we cannot let high inflation become entrenched in the economy. If inflationary pressures persist, we are prepared to raise our policy rate further to restore price stability.
In summary, we’ve made a lot of progress. We’re not there yet. We need to stay the course. When price stability is restored, the economy will work better for everyone.
With that summary, the Senior Deputy Governor and I will be pleased to take your questions. Thank you.
The Chair: Thank you, Governor. If we could recap, because you have also made some comments on the House side at the committees there. Obviously, inflation has not declined as much as you had hoped, as you have spelled out with the pressures from energy prices and housing with immigration numbers, et cetera.
You seemed to suggest — and I would give you this opportunity to clarify — that you may be working at cross-purposes with the government. The spending is still continuing, as is the carbon tax. Do you raise your rate to nudge them, or do you ask them outright to reduce spending and maybe cut the carbon tax?
Mr. Macklem: Well, I have a couple of comments. First of all, those are all decisions to be taken by Parliament and decisions that would come before the Senate. Those are not decisions for Carolyn Rogers and I to take.
With respect to monetary policy, what we do is we take governments’ fiscal plans into account. That includes provincial fiscal plans and federal fiscal plans. We build those into our forecast.
In the forecast that we presented last week, we have the latest budgetary plans of the provinces and the federal government built in, and you can see in that plan that inflation does come back to target, but, as you led off, it comes back gradually.
With respect to the government’s spending plans — and here I mean provincial and federal, all levels of government — what I have said in the past on this issue is that if government spending is growing at 2% or less, it is not really getting in the way of getting inflation back down to target, because we think the economy’s potential output is growing at about 2%. If government spending is growing at less than that, it is not adding more demand in the economy than supply is growing.
When we look at the current year, what we see is the government spending — based upon our estimates — is growing a bit less than 2%, so it is not adding undue inflationary pressures. However, when we look ahead to next year, when we add up all the plans, our estimate is that comes to roughly 2.5% growth, which would be somewhat above our estimate of the growth rate of potential output.
If all of those plans were realized, yes, government spending is starting to get in the way of getting inflation back to target. We have built that into our forecast. We do get back to target, but it takes some time.
The Chair: Thank you very much. I will have other comments or questions a little bit later on, but we go now to our deputy chair, Senator Loffreda.
Senator Loffreda: Thank you, Mr. Macklem and Ms. Rogers, for being here with us this afternoon.
You did briefly mention the housing affordability crisis, and I would welcome further commentary on the challenge that the persistent high level of housing prices represents to your monetary policy. I say that, as a 30-second preamble, we have had substantial interest rate hikes by the Bank of Canada over the past 18 months, and the price of a home in Canada went from $741,400 in September 2023 to 40% higher than in January 2020. It is 20% higher now than in January 2020.
Paul Beaudry, a former Bank of Canada Deputy Governor, expressed concerns that if the prices do not decline, it could pose challenges to support current valuations and potentially necessitate further interest rate hikes.
What is your commentary on that? Are you concerned about the housing affordability crisis in Canada, and does it affect your monetary policy?
I know inflation is your primary mandate and concern.
Carolyn Rogers, Senior Deputy Governor, Bank of Canada: We talked about this in our most recent Monetary Policy Report. Shelter inflation is keeping the overall rate of the Consumer Price Index, or CPI, up.
As you point out, we had a big run-up in house prices during the pandemic. In that environment, we had a combination of very low interest rates, which often pushes the price of houses up, but we also had a big surge in demand, too, because people were looking for more house, because we were all spending so much time in our houses. That combination caused quite a severe run-up in house prices, almost 50%, depending on what city you look at, but the average across Canada was 50%.
Since then, we’ve seen rates go up sharply, aggressively, to deal with inflation, and we have not seen the same decline down the other side. We have only seen house prices come off about 10%. On balance, as you point out, house prices are a big part of the cost of living pressure that Canadians are feeling right now.
Shelter inflation, in general, is part of the overall CPI right now. In our view — and we described this at our press conference, and we talked more about it on Monday — a change in interest rates alone is not going to solve the housing affordability issue in Canada. We have a structural supply problem in Canada. Ultimately, that is what needs to be addressed to bring both the cost of prices of housing down for Canadians and also help take a bit of pressure off shelter inflation and overall inflation.
The Chair: We will see if we can get around the table first, so unless your supplementary is really on target, then we will wait for a second round.
[Translation]
Senator Miville-Dechêne: I am also interested in housing. Despite successive hikes in the Bank of Canada’s key interest rate, housing costs keep rising.
Mario Fortin, an economics professor at the Université de Sherbrooke, says the increases in the key rate should have had the opposite effect, but that has not happened. Mr. Fortin believes one of the reasons for this unfortunate situation, especially for people looking for housing, is the financial assistance provided by governments to address the pandemic and inflation.
Do you agree with that theory? Ms. Rogers noted a few factors. Are there other factors at play?
Mr. Macklem: Could you repeat the theory?
Senator Miville-Dechêne: The theory pertains to the financial assistance the government provided in response to the pandemic and inflation. So, government spending to help citizens contributed indirectly to the rise in the market.
Mr. Macklem: We have to remember that, in March 2022, and in April, June and July, we were in a very serious economic crisis. More than 3 million people lost their jobs and another 3 million were working less that 50% of the time. We saw the biggest drop in GDP in the country’s history.
The government and the Bank of Canada were very concerned that this drop could lead to a depression. The government took various measures to close a large part of the economy. I think it is reasonable to say that people were compensated for the government closing a large part of the economy.
The good news is that these exceptional budgetary and financial measures led to the strongest recovery in history. It is true that very low interest rates contributed to booming house prices. As the deputy governor noted, that is not the only factor. People are looking for larger, more spacious homes, and that was a very important factor. The budgetary measures did of course feed into the demand as well.
After the crisis, however, these measures were eased and we increased our interest rates substantially. House prices dropped a bit, by about 10%, but they are still very high. Moreover, the current cost of a mortgage is much higher as a result of higher interest rates.
As noted, there was a shortage of houses when interest rates were very low. We still have a serious problem with housing affordability now that interest rates are high. The housing sector is very sensitive to interest rates.
All the same, changing the interest rate will not solve anything. We are pleased to see that governments at all levels — municipal, provincial and federal — are working together on housing supply. The problem is really the supply, and the issue of housing affordability will not be solved without increasing the supply.
Senator Miville-Dechêne: Thank you.
[English]
Senator C. Deacon: Thank you, Governor Macklem and Senior Deputy Governor Rogers for being here again with us.
The last time that you were here, I asked about the importance of competition policy as an ally and a long-term fight against inflation, and you felt that was a fair statement.
I want to speak about open banking and payment modernization. We are on hold, still waiting for the government and the finance minister to push go on those two files.
Our interchange fees in Canada are still about six times what they are in Europe. That is, in effect, a payments tax on the entire economy. If we could adjust that and get to a more globally competitive rate, it would be anti-inflationary in its effect. Our banks continue to be the most profitable by far in terms of domestic banking operations in the G7 according to the Lerner index from the U.S. Federal Reserve.
Where do those two issues fit in our long-term fight against inflation — strengthening competition policy is an ally, and those two specifically because we are so out of whack with the rest of the world?
Mr. Macklem: Let me make a few general comments about competition, and then I will ask the Senior Deputy Governor to focus on the payments issue.
Competition is a good thing. Competition encourages productivity growth; it encourages investment. We have many great companies in this country who are competing successfully in global markets because they are investing in people, developing their talent, R&D and in new machinery and equipment. Our problem is that we don’t have enough of them.
Why is that? Competition does look like it’s part of the answer to that. One bit of evidence for that is if you look at export-oriented companies versus companies that are more domestically oriented. Export-oriented companies have higher productivity growth and more investment; that does suggest that when you are exposed to international competition you have to rise to the challenge.
Competition would certainly be helpful in encouraging more investment and productivity growth. It is not that we don’t have great companies in this country; we just need some more of them.
Now I will turn it over to the Senior Deputy Governor.
Ms. Rogers: Yes. We would share your general view that Canada has a way to go to catch up to our peers in modernizing our payment system and trying to drive up the efficiency and improve the innovation for Canadians.
The best thing I can tell you is that our executive had a meeting this morning. We have made some internal structural changes at the bank recently. One of the motivating factors underneath this is to try to leverage the various experts we have in the bank under Ron Morrow, who I know you know well, to see if we can’t increase our influence and impact and move some of these projects along.
Our focus tends to be more on what I would call the “infrastructure payment infrastructure,” rather than something like open banking. That is a decision that rests with the Department of Finance.
Certainly, we are focused on trying to get Real-Time Rail going. Ron is very focused on getting an efficient regulatory regime up and running. We take your point. We are on it. We will stay on it.
[Translation]
Senator Gignac: Welcome, governor and deputy governor. Thank you for your commitment to restoring price stability.
Although you did not change the key rate last week, in your press release you said you were prepared to increase rates if necessary. What struck me during your press conference is that you had not considered or discussed at the monetary policy committee any rate reduction because that would be premature.
Yet the excess demand has disappeared. Supply and demand are more balanced. Gross domestic product has not budged since May. Per capita GDP has been 2.5% lower for a year. Moreover, the underlying rate of inflation is between 3.5% and 3.8%. Excluding mortgage rates, it is about 2%.
What kind of changes in the environment will it take for the monetary policy committee to consider lowering interest rates, given the time it takes for an interest rate drop to trickle down to the economy?
Mr. Macklem: I have two comments. As to the facts you highlighted, those are the very reasons that we decided to wait. We concluded that it was not necessary to increase interest rates now. We will wait and see what the future data shows. Our decision will be based on that.
I agree that the economy has slowed down. It is clearly in a period of slow growth. There are several indicators that supply and demand are balanced. Some suggest that we have already more or less reached a balanced market. The labour market indicators are a bit tighter. In short, we are clearly much closer to balance that in in last July.
As to when we will start talking about lowering interest rates, I think we have been very clear. We have to see a real decline in core inflation indicators. The core inflation indicators over three months — which are the most current — have been at about 3.5% for nearly a year. So we do not yet see a decline in those indicators.
We must really see a decline. We believe this is because the economy has slowed down a lot and pressures are easing. We have not yet seen a trend, though. Once there is clearly a trend around 2%, it will be time to start talking about reducing interest rates.
Senator Gignac: I understand we are at 3.5%. Excluding the hike in mortgage rates, however, Statistics Canada is saying that it is actually about 2%.
To reassure committee members, my question is the following: can you tell us that you will not wait until Statistics Canada declares that we are in a recession to consider lowering the rates?
Mr. Macklem: We do not want a recession. We need a period of slow growth, but we want to avoid a recession. If we remove mortgage rates from the indicators — that is always the case: if you remove something that is rising sharply, the remainder is lower.
That is why we use core inflation indicators because that is a systematic way to remove volatile factors. Doing that, the level is at about 3.5%.
Senator Gignac: Thank you.
Senator Bellemare: Welcome to the committee.
First, I would like to thank you for publishing all of your research findings on your website. It provides a great deal of information. At the same time, the findings might be worrisome in some cases, but I am still happy to have seen them.
I am thinking of your recent surveys of consumers and businesses. Specifically, with regard to consumers, you found that less than half of Canadians, or 38%, believe that the interest rate hike policy will have an impact on inflation. So the majority does not consider this policy to be effective.
In your survey, you also found that investments by businesses are at their lowest level. Business investment intentions are at about 7% as compared to 47% a year ago. Uncertainty is also at a peak level. These are significant concerns.
What is your reaction to these findings? Do you not think that the strategy of increasing interest rates is to some extent increasing the risk of greater inflation in the future?
As you noted in your opening remarks, there is a risk that inflation will increase. People do not think this measure will be effective, because they will not be investing and will be in a period of uncertainty; things will stagnate and take a nosedive.
Mr. Macklem: There are two parts to your question.
First, I am very pleased that you use our website and find all the information there to be useful.
We expanded our survey of businesses and consumers. We also added a new survey for smaller businesses. Our traditional survey is primarily for larger businesses. As you know, there are a lot of small businesses in Canada. Increasingly, we find these surveys to be very useful.
With regard to consumers, it is interesting that they will definitely be reducing their spending as a result of higher prices and interest rates. This suggests that consumption will be lower for a few quarters.
As to investments, as you noted, intentions are down. This reflects two factors. First, it is expected that the demand for products and services will drop. Interest rates and investment costs are higher.
The second part of your question relates to Senator Gignac’s question. We know there is a direct impact on inflation because, when we increase interest rates, the cost of mortgages increases, as does the cost of business loans.
Nonetheless, the fact that interest rates are higher serves to reduce inflation in the rest of the economy. As I said, that is very evident from the data. Consumers often buy durable goods on credit and inflation is even negative right now. As to semi-durable goods, such as clothing and shoes, inflation is at about 2%. We are even starting to see an effect on services other than housing. So we are seeing the effects of these measures.
If we had not hiked interest rates, the rate of inflation on all those goods and services would be much higher. Inflation will not come down unless we take action. Our tool is interest rates.
Senator Bellemare: Do you not think that, for semi-durable goods, our trade with China has an impact on lowering those rates — and that it is recovering?
Mr. Macklem: I agree. We have a very open economy. We sell many products on international markets and buy a lot of products also. With respect to goods in particular, global inflation is an important factor for us here in Canada.
We have seen that global inflation is easing. Supply chains have improved a great deal. The problems have not all been resolved, but the situation has improved greatly. There are fewer problems internationally and global factors affecting inflation are less significant that they were. It is primarily domestic factors that are at play now.
Senator Bellemare: Thank you.
[English]
Senator Galvez: Thank you, Mr. Macklem and Ms. Rogers, for being with us today. I’m interested in the relationship between energy and inflation. Fossil fuels are considered inflationary because they are higher in cost for extraction, they leave a high carbon footprint and they are very subjective to geopolitics. We are net exporters of petroleum, of oil. That has a role in inflation, as we have read everywhere. We know that in the United States they passed the Inflation Reduction Act in which they made a $370 billion investment in order to make a transition to a low-carbon economy.
Wouldn’t you agree that if we are to move Canada in the same direction of clean energy that this will have the positive impacts that we are looking for in reducing inflation, give independence to Canadians in terms of energy and benefit the economy in terms of competition and innovation?
Mr. Macklem: That’s a difficult question. There are many policy reasons to invest in climate change. Regarding providing subsidies for companies to invest in renewable energies, there may be some good reasons to do that, but mapping that to lower inflation is not easy.
Canada is a price taker in global markets for energy. Oil prices are determining global markets — we are a major energy exporter — but whether we export it or not, everybody in the country pays the global price. When those prices go up, gas prices go up at the pump and that boosts inflation. When they come down, it brings inflation down.
From a monetary policy perspective, that’s not something we have any control over. Historically, we’ve tended to look through energy price shocks in setting monetary policy, largely because energy prices tend to go up and down and monetary policy has lags. By the time you adjust monetary policy, the shock is over.
I would say, though, in the current context with inflation above the target for two years — to get back to Senator Bellemare’s question — household expectations of inflation are high. They are coming down but they are elevated. We can see companies are passing through higher input costs more quickly than normal. You would want to be more cautious than normal about looking through increases in energy prices.
Senator Galvez: You said we are an economy that exports petroleum. We give a lot of subsidies to the fossil fuel companies, in the order of billions per year, which renewable energy does not receive.
If we decide that fossil fuels, because that is what we were talking about, that we are going to cut the inefficiencies or these fossil fuel subsidies, would that also cause an impact?
Mr. Macklem: I expect it would work through the economy. It is a difficult question. There are a number of different types of taxes and subsidies. I cannot give you an answer.
That is not something that we do. We do not have detailed models of the whole energy complex, all of the various taxes and subsidies. I cannot give you a detailed answer on that. If they do change, we will analyze them. We will work through those effects.
[Translation]
Senator Massicotte: Thank you for being here, governor and Ms Rogers. Very much appreciated.
As we all know, there is some stickiness in global prices. It is hard to bring them down. It seems that the Bank of Canada, along with several central banks around the world, have all missed the mark in their predictions. Their analysis was incorrect and prices have not come down as much as expected. That is the case not just in Canada, but also in the United States.
I have been asked how that mistake could have been made so easily. I am not referring just to you; it happened to all central banks. We have seen this stickiness issue for decades. Why was it completely missed this time?
Mr. Macklem: Honestly, I don’t think we were far off the mark in predicting an easing of inflation. For a year, it was expected that the economy would slow down, that supply chains would improve and that inflation would ease. It was at about 8% 16 months ago. It is now just below 4%. Inflation has eased significantly and we think that a more balanced economy will lead to further easing.
Yes, you are right in saying that certain aspects are sticky, to use your word. There is some persistence and that was expected. It is true that it is a bit stronger than expected.
As I said, I think this can be attributed to certain obstacles. The housing market is still tight and it is expected that inflation will persist. In short, we clearly stated that we would raise interest rates quickly to reduce inflation, and it is on the decline.
Senator Massicotte: Looking at the news this morning regarding the U.S. Federal Reserve (the Fed), the U.S. media are saying there is no need to lower interest rates because interest rates in the business sector have increased a great deal. These costs are already being amortized because the market interest rate did the work of the central bank.
Do you agree with that statement?
Mr. Macklem: There was a sharp increase in long-term interest rates about two months ago, and you know that the Bank of Canada and the Fed control the overnight rate. That has an effect for a few years, but we do not really have control over 10-year or 30-year interest rates. Those rates have risen sharply. That probably reflects a combination of factors which, honestly, are hard to separate out at this point.
One factor is that the markets have increasingly recognized that central banks will have to maintain higher interest rates for a certain period because of persistent stickiness. It is difficult to attribute all of the increase to monetary policy forecasts. The term premium has increased. That is more difficult to explain. It might be attributable to the increased volatility of long-term interest rates, and the market wants to be compensated for that risk.
Deficits in the U.S. are in the order of 6% or 7%, and it is not clear that they will fall. Some buyers of U.S. bonds have probably cut their purchases. The market should offer them a premium; that could be a factor. Finally, we have seen an increase in Canada, but not by as much as in the U.S.
To return to the question, yes, it is a factor that we must consider in making monetary policy decisions. This suggests that financial conditions in general are tighter than in the past. If interest rates are higher because the market expects us to do what has to be done to control inflation, we will ultimately have to do so if necessary. We cannot leave it all up to market forces.
Senator Massicotte: Thank you.
[English]
Senator Marshall: Thank you, Governor Macklem and Senior Deputy Governor Rogers for being here today.
I wanted to talk about food inflation. There is quite a debate about whether grocers have raised prices too much and price gouging. In some of the articles it appears, Governor, that you think there might be price gouging when it comes to the increase in grocery prices.
I read a paper from the Bank of Canada where it concludes that the data do not necessarily support the notion that the recent high inflation is a consequence of firms leveraging market power to increase their prices.
I know that the note says that the views expressed are solely those of the authors and may differ from the official Bank of Canada views.
Seeing that food inflation is a really major issue in Canada, I would appreciate hearing any views that you have on this issue. I am also interested in the cost of mortgages. The food issue concerns everybody. If you can give us some comments or insight into your thoughts on food inflation.
Ms. Rogers: The first comment we would make is the food inflation is probably the one place where nobody can avoid it, right? We all need to buy groceries. It is something that everybody feels.
It is particularly tough on people with a big family, lots of kids, right? It is something that we pay really close attention to, for all of those reasons.
When it comes to firms’ pricing behaviour, this is also something that we have watched closely and it was one of the factors that we have listed that we are watching as a signal that underlying inflation is getting back to normal. What we have seen is that firms in general, not specifically — we have not looked at any one segment, grocers for example — but what firms tell us in general in our business surveys is that they have found it easier and more necessary, frankly, to pass their input costs along in the form of higher prices to their customers. There are a few reasons that they have been able to do that more often than normal and at a higher rate than normal. One is the very high demand in the economy. They don’t have to worry about losing customers. There is a lot of demand, and the less likely they are to feel the pressure to hold their prices firm.
When inflation was at 2%, what businesses would tell us when we surveyed them is, “Well, yes, my input prices might have gone up.” If something like gasoline went up in the near term, and it was affecting their transportation costs, they would be more inclined to absorb that, because they were worried that they would lose customers. But when demand is really high, they don’t have that worry, and they pass their input costs on regularly.
What that piece of research that you cited looked at is whether they are passing on more than their input costs, and are they increasing their margin? In that paper, as you saw, our researchers didn’t find evidence that they’re increasing their profit margins, but what they did find is what we find in our surveys, which is that businesses are more inclined in this environment, an environment of sustained higher inflation, to pass those costs on.
Senator Marshall: The retail grocers have been handed a challenge now, because the government wants them to come in with a plan to decrease prices. Just as somebody who is on the outside looking in, it seems, depending on why the prices are going up, it’s almost unfair to the retail grocers. I almost have a little bit of sympathy for them, but I don’t have the evidence to support it.
An Hon. Senator: You’re alone.
Ms. Rogers: What we would say, what’s good news for grocers, is that we do think they can bring their prices down, because we are seeing their input costs coming down. What we are hoping to see is that they have the same inclination on the way down as they had on the way up, and that as their input costs come down they can pass those on to the customer in the form of lower prices. That would certainly help overall inflation, and it would help Canadians.
Senator Martin: Thank you both for your testimony. You talked about the factors that are increasing the inflation rate, the global factors which are beyond our control, but you also said the internal factors are more important. What you said earlier in response to a question is that with a balanced economy, we will have lower inflation.
To achieve this balanced economy, what are the factors, and what do we need to move toward that as a nation?
Mr. Macklem: Just to recap, you don’t get up to 8% inflation because one thing happened. The initial burst of inflation, the initial impetus, was more global. You will remember that during the pandemic, we couldn’t buy a lot of the services we wanted, so everybody bought goods. The supply chains were clogged up. There were a lot of production problems because of COVID, so demand globally for goods went way ahead of supply. Then Russia attacked Ukraine. Energy prices went way up. Food prices went way up. Those are all goods, and that was the main thing that really boosted inflation, initially.
As many of those things have improved, supply chains have improved, the economy has reopened, we’re not buying as many goods, and we’re now buying more services but services are much more domestic. It’s harder to trade in services, and as the economy reopened, what we discovered was that the demand for services comes back a lot faster than the ability of the economy to produce them, so that drove their prices up. That’s the part that is more domestic, and that’s the part that our monetary policy has more effect on.
A year ago, the economy was very overheated. You could see it in the labour market, you could see it in product markets and you could see it in firm behaviour. They were passing on input cost increases very quickly.
We’ve seen all those things are now moving in the right direction. The economy has slowed. It’s no longer overheated. It might be slightly in excess demand and slightly in excess supply. Once you get close, it’s hard to say. But what’s pretty clear is that we have a forecast of several quarters of weak growth. It’s going to be moving into excess supply, if it’s not there already. That is going to exert more downward pressure on inflation.
At the Bank of Canada, we really have one instrument, and that is our policy interest rate, and that’s what we use to control inflation. Canadians expect us to control inflation, and that’s what we’re doing.
To get back a bit to where Senator Wallin started, governments have a whole range of instruments. As a general comment, I think the more monetary and government fiscal policy are rowing in the same direction, the easier it’s going to be to get inflation back to its target.
Senator Martin: Right now I’m looking at some numbers that are very concerning, as I’m sure everybody around this table is, but a Royal LePage report released last Thursday shows 31% of mortgage holders are set to renew in the next 18 months. The mortgage debt in Canada stands at $2.1 trillion as of January of this year.
These are very alarming numbers and are concerning. I know you have one specific way in which you’re controlling inflation, but are there concerns, looking at these numbers, and are you doing anything to mitigate the impact?
Mr. Macklem: I’ll say one thing and then ask the Senior Deputy Governor to expand.
One of the important reasons why we held our policy rate at 5% is that we know that those renewals are coming. We know there’s more to come from what we’ve already done, and we can see it’s working, and we know there is more to come. That’s why we have a forecast for weaker growth.
As I said, we’re trying to manage the risks of over and under doing it. We have factored that in. Is there a risk that it bites more than we think? Yes, there is. There are also risks that households have some extra savings and they’re able to pay it down and still consume, so we’re trying to balance those.
Perhaps you want to expand a little bit more on the mortgage market itself?
Ms. Rogers: Sure.
That number sounds about right. What we know so far is that about 40% of households with mortgages in Canada have already seen their mortgages renew at a higher rate.
Certainly, through surveys and what you read in the news — and the Royal LePage report that you referred to talked about the stress for mortgage holders that are renewing at what are, in some cases, significantly higher rates — but when we look at the data that we monitor to see the degree of stress that’s putting on households, we pay close attention, and we get a lot of data from banks. Certainly, there is pressure, and we wouldn’t want to minimize it, but we’re not seeing anything in the data that would suggest that households are under a significant increased amount of stress. We look at things, for example, like delinquencies or defaults, even, and those, in most cases, are still below pre-pandemic levels.
Now, they are coming up, and we would expect them to come up. There is no way you can increase interest rates to the degree that has happened over the last year and a bit and not see a bit of pressure, particularly with the level of household debt we have.
We’re watching those numbers closely. I know a few senators have mentioned they want to talk about mortgages, so we have a lot of information here we can share.
The Chair: I think we will come back to that.
Canadians are, by and large, very diligent about paying their mortgage, even if it means they’re sacrificing on other things. When you say that you haven’t seen defaults, in fact, it’s at a lower rate than pre-pandemic, is that because the big chunk hasn’t come in yet, or you don’t think it’s there?
Ms. Rogers: It could be a variety of factors. I mean, I would start with the amount of savings that Canadians accumulated over the last year and a bit. You heard us talk in previous meetings about what we called “excess savings.”
Because we weren’t able to spend on some of the things that we would normally spend on through the pandemic, and because there was a lot of support in the economy, overall Canadians’ balance sheets improved. We had a lot more savings coming out of the pandemic than we had going in.
When we talk to the banks about how they are dealing with their clients who are renewing and seeing significantly higher payments, what they tell us is that a lot of Canadians are actually paying down their mortgage or taking some of those savings and paying down the mortgage either in a lump sum, or those savings are helping them support higher payments. We’re also seeing wage gains that are helping offset.
If you think of a normal renewal environment, most Canadians take out five-year terms on their mortgage. Most will see a combination of their equity improve and their wages improve. That helps them meet higher payments.
There’s a variety of factors going on. I don’t think we’re prepared to attribute it to “there is no problem here.” We’re going to continue to pay very close attention to it.
Senator Petten: After the Bank of Canada’s announcement on September 6, 2023, that it would maintain its policy at 5%, the Honourable Chrystia Freeland, Canada’s Deputy Prime Minister and Minister of Finance, recommended the bank’s decision is a welcome relief for Canadians.
However, Ms. Freeland’s comments, as well as comments from provincial premiers, prior to the decision, drew criticism, suggesting a potential breach of the central bank’s independence from government interference. What are your views on such comments? Do you believe they pose a risk to the bank’s ability to conduct monetary policy independently and effectively?
Mr. Macklem: Do I think they pose a risk to the independence of the Bank of Canada? No, I don’t. I can assure this committee that we take our decisions independently.
Do I think the letters, for example, that I’ve been getting from the premiers, of which I received a new round recently, could be feeding the impression with some Canadians that the Bank of Canada is not independent of the government? Yes, that does concern me. I did express that to the premiers. I will be writing to them again, and I will similarly express that concern.
What I want to stress is that the premiers’ advice to us is not influencing our decisions.
However, the sentiments that they’re expressing that their citizens are feeling the effects of higher inflation are being squeezed by higher interest rates, are concerned about making their mortgage payment and car payment and whether they can afford what their kids need, and are worried about high food prices and whether they can put three meals a day on the table — those things do factor into our decisions.
Going back to your question, senator, we survey Canadians regularly. I get many letters directly from Canadians. Those elements are factored into our decisions.
The letters from the premiers are not influencing our decisions. We’re very pleased to hear from the premiers regarding the impact of our policies in their provinces. It would be better if they didn’t give us instructions on what to do with interest rates.
Senator Massicotte: I gather we’re not important enough to be considered, secondly by —
The Chair: Can we get a little clarification on the carbon tax issue and its contribution to inflation, which, of course, you have acknowledged? Can we get some numbers on that? What happens to your assumptions when we see changes and moves like we did this week, where the collection will be less and then there will be more cost if we’re going to subsidize other heating sources, et cetera? How do you react to that when that sort of thing happens out of the blue?
Mr. Macklem: There are two key numbers that I can give you. The first question is about the increases in the carbon tax that are built in going forward. How much will those increase inflation each year? The answer to that is our estimate, based on its direct impact on the three fuel components, which is that it will increase inflation by 0.15 percentage points per year, a pretty small number per year.
The second question that we are often asked is: What would happen to inflation if the carbon tax were eliminated, the whole thing? And our estimate of the direct effect of that on inflation is it would cut inflation by 0.6 percentage points for one year. The reason it is only for one year is that you can only eliminate it once, and once it’s fallen out, it can’t fall out the next year. For one year, it would reduce it by 0.6 percentage points.
With respect to the latest announcements of the government, I don’t have a calculation for you, but given that it’s on one type of fuel that’s not used by many Canadians, I don’t have a number, but I’m pretty sure it would be a very small number relative to those numbers I already gave you.
The Chair: But there’s more spending associated with it in terms of subsidies.
Mr. Macklem: They’ve articulated some plans to subsidize heat pumps. I don’t have an analysis of that. It just came out. My expectation is the macroeconomic effects of that on inflation would be pretty small.
The Chair: Thank you very much.
Senator Loffreda: In recent years there has been an increase in the proportion of residential properties purchased by investors, and the Bank of Canada found that the share of homes purchased by investors increased in 2021.
To what extent are investors affecting housing affordability? What is the proportion of investors in the real estate market? Is this a concerning trend, or could it be if real estate prices were to stabilize or decrease? We’ve had witnesses say that there’s no rolling back. It would be catastrophic for Canadians if real estate prices do decrease. Is this a concerning trend, and would it affect your future monetary policy?
Ms. Rogers: Well, I would come back to the comment I made earlier. Our view on this issue is we have a structural supply problem. We’ve had a housing affordability problem for quite some time. My career in the financial sector in this country goes back to days in B.C. more than 10 years ago, and I remember I had a range of responsibilities for regulation. The thing that always seemed to be on my desk was real estate in one form or another. At that time, there was a lot of concern about foreign ownership and there was a series of tax measures that came in.
Our view is that we need measures that address supply to solve this problem.
Certainly, the role of investors, particularly in the time period you mentioned — and we commented on this — has contributed, we think, to the run-up. I think when people are buying houses because they are speculating on a profit, they’re anticipating a quick run-up in price. That’s usually the sort of investor sentiment or incentive around housing. Certainly, that doesn’t help. That’s going to add to demand. If supply can’t meet that demand, it’s only going to put pressure on house prices.
It’s one factor but far from the only factor.
Senator Loffreda: Is there a large proportion of real estate owners that are investors in Canada?
Ms. Rogers: I’ve seen more than one study on this topic, and it depends on how you define an investor, whether you consider anybody who owns more than one home to be an investor, or whether you consider how long they’re going to hold the house. It’s hard to put a number on that, and it’s even harder to put a number on what that is contributing to the overall affordability problem.
Mr. Macklem: Building on that, we don’t have direct estimates of what an investor is. You have to kind of infer it. You have to back it out. That’s why the estimates are all over the place.
Just to summarize a couple of things, the foreign investors were a bigger part of the market. A variety of measures, I think, have reduced the foreign investor issue. It’s now more of a domestic issue. Certainly, in the rapid run-up, investors, as you were saying, are attracted by immediate returns. When things look like they’re going up, that draws it in. Now as prices start to come down, you see that come down. It’s pretty difficult to predict exactly where prices are going to go forward. Some of that investor froth has been taken out with house prices coming down 10%. That doesn’t mean it’s still not a factor, but I think some has come out.
Senator C. Deacon: Thank you, Governor and Senior Deputy Governor, for being here.
I want to ask about chart 16, looking at GDP growth per capita, because we spent a lot of time earlier this year looking at business investment in the digital and data era.
We found that the United States is growing their business investment at four times the rate of Canada in a per-worker basis in the digital sector. Our GDP per capita is slowing. We don’t see a strategy in place to change that at this point. It worries me because that is, as we say, a core productivity issue. We identified a number of factors: competition policy, data strategy, governance, privacy policy. An IP protection strategy moving forward is very crucial in the era we’re now in.
Help us understand the GDP per worker challenges or GDP versus citizen challenges we’re going to be facing in this country. The OECD doesn’t paint a very nice picture looking forward. What are your thoughts?
Mr. Macklem: How long does the committee have?
This is the real puzzle for us in Canada. On the one hand, if you look at Canada and the United States over the last 20 years, our growth rates are pretty comparable. But the sources of growth have been different. In Canada, we’re really good at growing our economy by adding workers; there’s a lot to be said for that. One of the ways we have done that is we have much higher labour participation rates in Canada than in the United States, particularly among women. If anything, we’ve been surprised and happy to see the female participation rate has continued to move up, approaching the male participation rate. Obviously, we have much higher rates of immigration. We have a good immigration policy, a lot of economic class immigrants. Companies are good at hiring them. We’re good at integrating them into the labour force.
Whereas, in the U.S., they’re growing partly through adding workers. But a lot of their growth comes from increasing output per worker or productivity. Why can’t we get more productivity and why is productivity important?
I share your concerns. Productivity is so important because it’s actually what sustains per capita increases in the standard of living. It’s what pays higher wages. We’d love to see higher wages, but they need to be sustained with higher productivity. Why is it that we don’t have higher productivity growth in Canada?
I think you’ve identified a number of factors. I think if you just look at the data, what do we know? Companies that invest more in new machinery and equipment, new ICT technology, R&D, in the talent of their workers and how they organize work hard to attack costs and drive costs out so they can be more competitive. As I said earlier, we have many great companies doing that in Canada and they’re competing successfully globally. Why don’t we have more and why can’t you see it more in the productivity data?
I think that is a difficult question. I think there are some structural barriers. We have a lot more small- and medium-sized companies in Canada than in the United States. We know that small- and medium-sized companies don’t have the resources to digitalize in the same way that bigger companies do. We’re a big country. We have high transportation costs.
I do think there are some underlying puzzles. I’m glad the Senate is studying it and I do think there are some things that governments should really be looking at. And particularly in an environment where I think the fiscal choices are only going to get tougher, a lot of these measures don’t require spending money. They’re regulation. They’re reducing interprovincial barriers. They’re making approvals more predictable and timely. Those don’t cost money and they will grow the economy, expand the tax base, and make everything easier, including monetary policy because we need to keep supply and demand roughly in balance to keep inflation under control. The more supply is growing, the more demand can grow without causing inflation.
Senator C. Deacon: Thank you.
[Translation]
Senator Gignac: My next question is not a criticism of your monetary policy, as I think you’re doing the best you can with the tools you have.
However, your monetary policy, right now, has become the most restrictive in the G7 if we take into account core inflation in each of the countries and your key interest rate — and it’s the economists at the Bank of Canada who are saying this.
I’m trying to understand the responsibility of fiscal policy in all this. Do you agree with former governor of the Bank of Canada, David Dodge, who said that adopting fiscal anchors would help monetary policy, since, as you said last Monday, the two are currently rowing in two different directions?
Mr. Macklem: Current governors of the Bank of Canada do not advise on monetary policy.
I was recently in London, and Canada’s reputation is good. As far as monetary policy goes, it was said that the decisions were good and very clear. As for fiscal policy, in the G7, our GDP to deficit ratio, along with Germany’s, is the lowest. We have an AAA credit rating with Germany.
So Canada is stable and it’s a good place to invest. There are a lot of positives. My only advice, really, is that these are great advantages for Canada and it’s important to protect them.
Senator Gignac: Yes, but I just want to be clear.
You said in the House of Commons on Monday that this fiscal policy was not rowing in the same direction as monetary policy — I’m just trying to understand. If it were rowing in the right direction — and I know you don’t like that — could we claim that we’d have a monetary policy that was a little less restrictive? Because right now, it’s the most restrictive in the G7.
Mr. Macklem: If fiscal and monetary policies are moving in the same direction, it will be easier to reduce inflation, and yes, this will have a positive impact on interest rates, of course.
[English]
The Chair: Somebody else needs to give them advice rather than the governor of the bank.
[Translation]
Senator Bellemare: I’d like to continue with the same reasoning as my colleague Senator Gignac.
You talked about coordination, and I find that very interesting. Having coordinated monetary and fiscal policies is not a sin, and it doesn’t take away the bank’s independence — quite the contrary. It can improve its effectiveness. We can coordinate demand, and we can coordinate supply, perhaps — I don’t know. I’d like to hear what you have to say about that.
There’s a third element to my question about new tools you could perhaps have. I was looking at your balance sheets and I wondered: When we had very low interest rates a few years ago, we sometimes risked deflation; we even wondered about that, as we wanted to stimulate the economy. We used quantitative easing and those were big numbers.
I was looking at your balance sheets, and quantitative tightening is slow. What consequences could it have to quantitatively tighten balance sheets and play on that quickly?
I also have a very simple question because I didn’t understand the impact. I’d like you to explain something. “Payments Canada members,” which didn’t exist before 2020, arrived with COVID-19. Maybe there was another institution that coordinated payments, but in your balance sheet, it didn’t appear on this line. It was at zero and it went up to $500 billion in the first quarter of 2021.
The same goes for Government of Canada bonds: They also rose sharply, to $430 billion by early 2021.
Are these instruments you can play with without touching the key interest rate? This surely has an impact on longer-term rates. I’d like to hear what you have to say about this and find out whether it’s a workable approach.
Mr. Macklem: I’d like to start with the second part of your question about quantitative easing and quantitative tightening.
Some aspects are very operational. There’s Canada’s payments system, which is not monetary policy. The Bank of Canada acts as banker for the government, which makes deposits when it pays its employees. All these deposits come off our balance sheet.
These are operational aspects that are not related to our mandate for monetary policy. What is part of our mandate is quantitative easing and now quantitative tightening.
When it comes to quantitative tightening, when bonds mature, we drop them from our balance sheet. We don’t actively sell our balance sheet. Some central banks do, including the Bank of England. Its situation is somewhat different from ours.
The bonds on its balance sheet are much more long-term. So if it doesn’t sell, its balance sheet will remain high for a very long time.
Like the U.S. Federal Reserve’s balance sheet, our balance sheet is shorter-term. So by dropping bonds as they mature, our balance sheet shrinks.
According to the figures we have, at the peak, the balance sheet showed $575 billion in bonds and now it’s $324 billion. If we continue with quantitative tightening, towards the end of 2024, it will be around $260 billion.
With regard to the first part of your question about coordination, I’d like to clarify two things. First, governments have many priorities: education, security, health, protection of the vulnerable. That’s why most democratic countries have created a central bank whose sole mandate is price stabilization, and whose main instrument is the interest rate.
The government also has a role in stabilizing the economy and the inflation cycle, but since it has many priorities, it’s harder for it to balance all that. That’s why we have Canada’s central bank, which has a clear mandate and operational independence, and in most cases, we can all make our own decisions.
On the other hand, if I’m asked whether the federal and provincial governments should take into account the impact of inflation on their spending, I would say that, in a context of high inflation over the past two years, the government should take it into account.
[English]
Senator Marshall: Thank you very much. I didn’t realize my turn was so quick.
I wanted to talk about your financial statements, too, and this is something we have spoken about before, the loss on your statements. We talked about the reason why you are incurring a loss.
When you look at the financial statements of the Government of Canada, which were just released, the amount of money that you are no longer remitting to the government as revenues for them is very noticeable. They miss the revenues that you were providing.
I noticed from your financial statements for the quarterlies for the end of June, you talk about the net loss, and you say, “In time, the Bank will return to a net income position.”
Does that mean that when you return to a net income position that you will start remitting those revenues to the government again? I am just wondering how long will it be before you start remitting money to the Government of Canada? How many years? Have you projected it out?
Ms. Rogers: We have. It depends. It is always difficult to forecast around our balance sheet, because it depends a lot on the path of interest rates.
Senator Marshall: I know.
Ms. Rogers: To go to the first part of your question, Senator Marshall, we will recoup the losses before we start remitting.
Senator Marshall: It is long term?
Ms. Rogers: It is longer term.
If you look at the market path for interest rates, and you project that out, our best estimate at this point in time is that we would be back to remitting profits to the government in 2030.
Senator Marshall: 2030.
Mr. Macklem: We will move back to profitability before then, but we use that to recoup the losses.
Senator Marshall: You have to recoup, yes.
Mr. Macklem: When those are recouped, we will begin remitting again.
Senator Marshall: Then you will start, okay.
It is quite noticeable on the government’s income statement that you are no longer remitting anything to the government. I realize that you are holding their bonds, but, nonetheless, they are still missing your income.
So 2030, thank you.
Senator Galvez: Thank you. I am sure you know that our six big banks are heavily invested in fossil fuels, and when you talk to them, they will say that if they stop these investments, that will have a very negative impact on the Canadian economy and its stability.
Earlier, in an answer to my question about what the impact of fossil fuels is on inflation, you said that you don’t have in-depth analysis of the complex sector of fossil fuels and its relationship to our economy.
At the same time, on your website, you say that climate change is a big issue for central banks, and you say that climate change is reshaping the Canadian economy.
Can you please tell us a little bit more on how you see all of these things interacting with one another? Thank you.
Mr. Macklem: The first point I want to make is that the Bank of Canada does not have any explicit mandate for climate change, but exactly as you said, climate change is a major force that is affecting the Canadian economy. It will impact virtually every sector of the Canadian economy.
In fulfilling our responsibilities of monetary policy and in fulfilling our responsibilities to promote a stable and efficient financial system, we need to understand the effects of climate change on the economy.
We have been doing two big things: The first one is more advanced. We have been working with the Office of the Superintendent of Financial Institutions, or OSFI, together with major financial institutions, to assess the financial stability risks posed by climate change. Here the main risk is that the market is underestimating or mispricing the climate risks, and at some point those risks crystallize, and you see a rapid, large asset revaluation that leaves a big hole in the financial system. Then we have a financial stability issue.
There is a lot of uncertainty about how climate change is going to play out. Nobody really knows. I don’t think anybody can forecast it, and if they tell you they can, I would be a little skeptical.
But what you can do is you can do scenario analysis. What would it look like in these circumstances? What would it look like in those circumstances? You can see to what extent the financial system could withstand that shock.
We have done that analysis. It shows that it certainly has some effects. By and large, it doesn’t look like it is cataclysmic for the financial sector. It doesn’t mean that it isn’t a big issue for the economy. But we have done those studies, and we have put them out, and certainly OSFI, which is the prudential regulator, is certainly looking at that closely. That is something that they are thinking about as they determine their capital standards. From our perspective, we have done most of that work. There are a few more things to do, but it is largely completed.
The second area we are getting into much more now is understanding the effects of climate change on the macro economy and the implications for inflation. There are two broad types of effect. The one type, which I’m sure every Canadian is very alive to, are the effects of more frequent forest fires, floods and extreme weather events. They are disrupting Canadians’ lives, production, transportation and supply chains. If those things are going to be happening more frequently, what does that mean for the economy? One thing we’re conscious of is that monetary policy affects demands, but it does not really affect supply. If you get more supply shocks, that is going to be more difficult. How do we manage that?
Another effect is the transition to greener growth. There needs to be huge investments in renewable energy to get down to net zero growth. What is the impact of that on the economy and on various sectors?
We are investing in models that are suitable for monetary policy that include these climate factors. Our current models don’t really include these types of things. You have to put a new factor in your model which reflects clean energy.
Senator Galvez: Thank you.
Senator Massicotte: Thank you. While we have you here, Governor and Ms. Rogers, on that question there is a proper measures bill that we are debating whereby we would force the Bank of Canada, all of the banks and financial institutions within the government system, to come together with a separate board to make sure that these entities are doing the work properly relative to the climate change risk. Do you see that as a benefit to you? Is it an impediment to you? I gather some countries have done that. What are your thoughts on that?
Mr. Macklem: Briefly, I think this is more of a question for the Office of the Superintendent of Financial Institutions. They’re in charge of the supervision and regulation of the banks.
My own view is that climate change needs to become part of business as usual. The OSFI already oversees the governance and the internal risk management that the banks are doing. That needs to become part of it. As I said, this is really more a question for them.
Senator Massicotte: Thank you.
The Chair: He will be here tomorrow, so we will do that.
There are a couple of more questions from my colleagues, but can you give us more of your thinking now? You have been pretty cautious in these remarks. We all sat here when you came back after the pandemic and said, “Yes, maybe we were a little off-base on that transitory inflation thing.” You have said your mea culpas there.
Technically, we’re in a recession at this point. Personal credit card balances are sky-high. Debt charges are up 42%. Government debt is up. How gun shy are you, right now, about making these decisions and making a 25 basis point? What is your thinking? Hold the line until somebody makes me do something else?
Mr. Macklem: I would say a couple of things. First, decisions are difficult. We know these decisions are having a big impact on Canadians. We know Canadians are feeling the pain. They have been feeling the pain of inflation. We know that higher interest rates are squeezing them. Unfortunately, there is no pain-free way to get back to price stability.
With respect to our decisions, we increased rates twice over the summer. That really reflected the fact that our governing council came to the view that monetary policy was not restrictive enough to get inflation back to target. We’ve held our last two decisions at 5%. That reflects the fact that we are seeing clear evidence of some of the things that you mentioned. The economy is slowing; the labour market is better balanced. We think it will be quite slow for the next few quarters. We think there is more inflation relief in the pipeline, but we need to see it. We need to see core inflation come down. It has been more stubborn than we had hoped. So, yes, the possibility further rate increases on the table.
Senator Loffreda: I will continue on that note.
We are reading in BNN Bloomberg that “Canada may have entered a technical recession, early StatCan data show.” The Financial Post states, “Canada’s stalling economy on track for technical recession.” And BNN Bloomberg again, stating that, “Mild recession could quickly get worse without rate cuts.”
Yet, on your forecasts are you predicting slow economic growth. Do you still stand by those forecasts? I guess you do. Is it concerning that using data from the Organization for Economic Co-operation and Development, which is a group of 38 economies, the International Monetary Fund, or IMF, warns that Canada is at the highest risk of mortgage defaults in comparison to these 38 advanced economies? Equifax reports that Canadians with a mortgage are missing payments but not on their mortgages. Obviously, that is the last thing that Canadians stop paying. We all know that it’s their mortgage.
How concerning is this to you? How will it affect your future monetary policy? Obviously, we do not have a crystal ball, but I would like to have your thoughts on that. This is fresh information.
Mr. Macklem: Yes. I will start off and the Senior Deputy Governor may want to add.
We are doing our best to balance those risks of over and under tightening. With respect to our projection, our forecast is for very small, positive growth.
If you are forecasting very small positives, you cannot rule out some small negatives. So, yes, we could get two or three quarters of small negatives and we could get two or three quarters of small positives.
When people say the word “recession,” they remember that a recession feels like a big contraction in output and a big increase in unemployment. That is not what we’re forecasting. That is what we’re trying to avoid. We don’t think that we need a severe recession to get inflation down.
The Senior Deputy Governor may want to expand on the delinquencies. Some of those numbers that you cited are in line with some of the things we are seeing.
Ms. Rogers: Yes. To share a bit of data with you, there are a couple of things to keep in mind. First, always remember that about 35% of Canadian households have a mortgage; about 40% rent; and the rest, about 25%, own their home outright. We tend to put a lot of focus on mortgage holders when we think about financial stress but it is important to think about non-mortgage holders too.
In the recent data that we looked at, if we look at 60-day delinquency as an indicator of financial stress for mortgages, it has moved. It is still, as I said, below pre-pandemic levels but it has moved up fairly sharply in the last six months. It’s moved from 1.2% to 1.4%, and so it has moved six basis points.
This is not just non-mortgage holder debt. This is not the car loans of people who also have mortgages, this is the debt of people who don’t have a mortgage. It has actually moved up more.
What we take from that is the financial stress that people are feeling cannot be reduced to just delinquencies. What we take from that is inflation is probably still playing a really big role in people’s financial stress.
You need to look at more than just mortgages, and you need to remember the role of inflation. When we think about what we can do to help people with financial stress, we can get inflation back under control. That will help people who have mortgages, people who don’t have mortgages, people who own their home and people who are paying rent. It will help everyone.
When we think of financial stress, we track it closely for the reasons that you talked about. It factors into the decisions that we make on monetary policy. But what we’re determined to do to help Canadians with financial stress is to get inflation back to target.
Senator Gignac: I will try to be brief. You can complete a written answer if you would like, Mr. Macklem.
Your former colleague gave an interesting speech last June about the fact that we have to deal with permanent higher interest rates following the pandemic than we had to deal with before.
On the U.S. side, economists now agree that the real neutral rate is probably 50 basis points and possibly 75 basis points higher than before the pandemic.
Do you believe that Canada has a similar real neutral rate as the U.S., and, if not, what will be the difference between Canada and the U.S.?
Mr. Macklem: I think that I can be brief. As Paul Beaudry outlined in his speech, the problem with the neutral rate is that it is a lovely economists’ concept, but we cannot measure it or observe it directly. We have to infer it. We have a variety of models that we use to estimate it.
Of course, the thing about when you estimate a model, it is on the historical data because you do not have future data. When you update those models on the historical data, as Paul Beaudry outlined, you cannot find compelling evidence that the neutral rate, based upon historical data, has changed.
We update our estimate once a year in April, and I will admit that when we put that out last April I wasn’t totally comfortable with it. It didn’t feel quite right, but empirical analysis is empirical analysis.
Interestingly, the day after we put ours out, the IMF put out their WEO, or World Economic Outlook, and they had an appendix. Not surprisingly, we all use similar models, and they ran it through global models and got the same answer we did. We said, okay, well, at least we’re running our models right.
But it doesn’t mean that the neutral rate hasn’t gone up. When you look forward about the data that we don’t have but we’re going to get, I think that there are some reasons to believe it is more likely that the neutral rate is higher than lower. There are a number of factors. Fiscal deficits are a lot higher in some of the larger economies in the world, the U.S., and that will put pressure on the neutral rate. You have an aging society, so the baby boomers are moving into retirement and the labour market may be permanently tighter. You are going to need big investments in renewable energy to get to net-zero growth.
Those are things that could be increasing the neutral rate. It is very hard to quantify them. I could not put a number on it. People are putting numbers on it. I do not think that we can put a number on it. I think that directionally it is probably going up, but it is very hard to know how much.
The final thing that I would say is of the things that keep me up at night, that is not one of them. I think that our framework is reasonably well designed. If the neutral rate is changing, it has to be changing pretty gradually. If it is drifting gradually up and we don’t take enough account of that, that means we all think that monetary policy is tighter than it really is, so inflation will be higher than our forecast. The beauty of the inflation target is we’ll catch on. We will see how inflation is a bit higher than our target, and that suggests the neutral rate may be a bit higher, so we will have to have interest rates higher than otherwise to get inflation back to target.
The neutral rate has to be evolving pretty slowly, so it should be something that we can learn about as we go.
The Chair: You just opened up another area. If that doesn’t keep you up at night, what does?
Senator Gignac: A good question.
Mr. Macklem: I did walk into that one. Look, I think it is pretty obvious what keeps us up at night. We want to restore price stability for Canadians. We know that Canadians are feeling the effects of the rise in the cost of living. They are finding life unaffordable. That has got to stop. We want to get inflation back down and restore price stability for Canadians, and we want to do it in a way that is least costly as possible.
[Translation]
Senator Bellemare: I think your conclusion answers my question.
What do you say to people in the labour market who are trying to index their wages? I think that with indexation clauses, your message is clear: You want to sleep and you work to do it.
Mr. Macklem: I’d like to stress this: It’s not that I want to sleep; we’re doing this for Canadians, workers, consumers. When we get paid and can’t buy what we thought we could, we get angry. That’s what we see in society. Inflation makes everyone angry. Inflation affects social cohesion.
We can’t solve all the problems, but price stability means one less problem for all Canadians.
[English]
The Chair: We hope that you both get some sleep, and we also hope that you get inflation down.
Thank you so much to Governor Macklem and Senior Deputy Governor Carolyn Rogers. We appreciate that you come back regularly and take our questions, and we’ll see you at the next monetary report release. Thank you very much.
Mr. Macklem: We appreciate your good questions.
The Chair: Thank you very much.
See you tomorrow, everyone.
(The committee adjourned.)