Some former central bankers make a point of staying out of the way of their successors. Not David Dodge, the Bank of Canada’s leader from 2001 to 2008.
Dodge, who is now an adviser at law firm Bennett Jones LLP, told a reporter from Bloomberg News early last week that his former colleagues should “temper their enthusiasm” over the likelihood that the current burst of inflation will be short-lived.
“By insisting it’s all temporary they tend to undermine their own credibility, which is unfortunate,” Dodge said. “It’s better to be humble and say that what we think, but of course there is a chance things could be different.”
Tiff Macklem was probably surprised to read that his former boss thought that the Bank of Canada was taking a cocksure approach to inflation. Macklem and his deputies have hedged their assessment of pandemic price dynamics every step of the way. Dodge was voicing an impression, not a fact.
The latest interest-rate statement on July 14 included an unusually long description of what policy-makers thought was happening with prices, suggesting the governor was sensitive to the possibility that a population used to inflation around two per cent might panic at the prospect of an extended period of prices increases in excess of three per cent. “The factors pushing up inflation are transitory, but their persistence and magnitude are uncertain and will be monitored closely,” the statement said.
The Bank of Canada’s most recent economic report acknowledged that supply bottlenecks and other factors putting upward pressure on prices could be “stronger or more persistent than estimated.”
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In his prepared remarks for reporters after the report’s release, Macklem said there is “continued need for careful attention to the dynamics of the recovery and inflation.” He later shot down a question about whether he was getting distracted by other indicators such as joblessness and inequality, declaring that “we have one target and that’s inflation.” Macklem reiterated that point in an interview with The Canadian Press, saying it was his best guess that the factors influencing inflation “will work their way out … but if they don’t, and we start to think that inflation will remain above our target range, we have the mandate, we have the tools and we will control inflation. We will get it back to target,” which is two per cent, the midpoint of a comfort zone of one per cent to three per cent.
There is definitely a lack of humility in those comments, but it doesn’t stem from a cavalier attitude about what’s going on with prices. Macklem sounds like every other leader of an inflation-focused central bank since Paul Volcker, the former chair of the U.S. Federal Reserve, crushed double-digit inflation with double-digit interest rates in the 1980s. They routinely seek to reinforce their credibility by reminding audiences that they long ago discovered the cure for runaway inflation, and they aren’t afraid to administer it.
You can question whether Macklem has what Volcker had, but you’d be doing so based on nothing but cynical opinion. The evidence suggests that Macklem is as credible an inflation soldier as Dodge or any of his predecessors. The current governor, who has been on the job for 13 months, already passed an early trial by fighting off the deflationary forces that threatened to deepen the recession a year ago.
The astonishing cost of acquiring the lumber to build an outdoor deck was a talking point this spring, but such chatter forgets that a year earlier, annual increases in the Consumer Price Index had plunged below zero. Those numbers represented a bigger threat to price stability than the CPI’s current jump above three per cent. Inflation today is evidence of success, not failure.
Winning his match with deflation was only the first challenge, of course. Macklem must now keep price increases from getting out of hand, a task that could prove difficult if the post-pandemic recovery keeps throwing up surprises. No one predicted an epic recession would include a historic surge in housing prices, but that’s what happened, and shelter costs are now the biggest drivers of upward pressure on the CPI.
Lockdowns caused demand for video-game consoles to skyrocket, diverting supplies of computer chips that would normally have been used to build cars. The result: a shortage of automobiles at a time when tens of thousands of previously locked up North Americans want to hit the road in new wheels. Claire Fan, an economist at Royal Bank of Canada, calculated last week that vehicles are now the second biggest driver of inflation after shelter.
But unless the global economy was totally broken by the pandemic, it is reasonable to assume that supply will eventually catch up with demand. Lumber prices, the unexpected talking point of the pandemic, are now in retreat, in part because 2×4 boards became too expensive for DIY contractors, and in part because sawmills started cutting up more logs. Statistics Canada reported on July 30 that softwood lumber prices plunged 12.5 per cent in June.
“A lot of sectors stopped work, let inventories run down during the pandemic and now we’re getting excess demand,” Stephen Poloz, the previous Bank of Canada governor, told the Financial Post’s Larysa Harapyn in May. “But on the other side of every expansion of demand in the commodity sector, what you get is an expansion of supply. So, I suspect that is a very temporary phenomenon.”
It’s possible that Macklem, Poloz and the bond traders whose behaviour so far indicates little fear of runaway inflation are wrong. There is a lot of stimulus in the system and that money could end up stoking more demand than forecasters currently predict. It’s also possible that the psychology of households and businesses changes in a way the pushes expectations of future prices higher.
The latter represents one of Macklem’s biggest challenges. That task will be harder of people with the stature of David Dodge continue to sow doubt about whether the Bank of Canada is up to the job.
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