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The chief executives of two of Canada’s biggest banks recently warned the Bank of Canada that it may be making a mistake by treating the inflation scare as largely temporary.Chris Wattie/Reuters

Earlier this month, a prominent U.S. economic think tank invited the Atlanta regional Federal Reserve president to deliver a speech on the outlook for inflation. He showed up with his Transitory Jar.

“Over the past few months, this has become something of a swear word to my staff and me. Say the word ‘transitory,’ and you have to put a dollar in the jar,” Raphael Bostic told a virtual event hosted by the Peterson Institute for International Economics.

As the current surge in inflation – not just in Canada and the United States, but many countries of the world – drags on and even deepens, “transitory” has become, if not a dirty word, an increasingly unhelpful one to describe the situation. The consistent argument from monetary policy authorities, that rising prices are a temporary hiccup in the economic recovery, has become less convincing to the public as their cost of living continues to climb.

Statistics Canada reported this month that the year-over-year increase in the consumer price index (CPI) – the standard gauge for inflation – hit 4.4 per cent in September, an 18-year high. U.S. inflation was even higher, reaching 5.4 per cent, the first time since 1991 that inflation has been above 5 per cent for four straight months.

Many of the key factors behind the rising inflation numbers do still look temporary. But some, particularly pervasive global supply bottlenecks that are pushing up prices, now appear to have a longer life than most experts and monetary policy authorities had expected.

“These bottlenecks are looking to be more complicated, more persistent, than we previously thought,” Bank of Canada Governor Tiff Macklem told a media briefing earlier this month from the International Monetary Fund and World Bank meetings in Washington.

“They’re going to take some time to work through. What this all means, in all our countries, is measures of inflation are going to take a little longer to come back down.”

But for consumers and businesses enduring the sharp rise of prices for housing and food, gasoline and motor vehicles, raw materials and parts, the questions are growing more urgent. If this is, indeed, a storm that will pass, then when? How long is “transitory”?

Canada’s inflation rate hit 4.4 per cent in September. Personal finance columnist Rob Carrick answers questions about some of the factors driving inflation and how people can reduce its impact on their household budget.

The Bank of Canada’s most recent quarterly forecast saw the inflation rate peaking at just less than 4 per cent in the third quarter, before going into retreat by the end of the year, and falling close to the bank’s 2-per-cent target by the second half of next year. But that prediction is three months old – an eternity in the fast-evolving economics of the COVID-19 pandemic. (The central bank will issue updated projections on Wednesday.)

Most private-sector economists now expect inflation to remain north of 4 per cent through the end of the year. Nevertheless, they expect the inflation rate to moderate to between 2 per cent and 2.5 per cent by the fourth quarter of 2022 – a bit higher than the central bank’s July projection, but not much. In short, most forecasters still believe that roughly a year from now the inflation surge will have largely reversed.

A portion of that reversal will be essentially automatic and largely a function of inflation arithmetic. This is what the experts refer to as “base effects.”

The base – the year-earlier price levels, against which current prices are compared when calculating the inflation rate – was unusually weak a year ago, as prices were restrained by the initial shock of the pandemic. That has had the effect of exaggerating the scale of this year’s price increases, when reported in year-over-year terms. Britain-based research firm Capital Economics estimates about 60 per cent of the inflation increase in advanced economies this year has come solely from the rebound in energy prices from 2020’s severe lows.

By the same token, as 2021 becomes the base, it could having a muting effect on the inflation rate next year.

More complicated is the question of what will happen with the acute supply shortages and clogged shipping networks that have become the bigger inflation story over the past few months.

The rapid return of demand as economies have reopened, combined with the continuing complications associated with COVID-19 and the rise of the Delta variant, have proved more than supply chains can handle for the time being.

Mr. Macklem said the international colleagues he spoke with at the IMF-World Bank meetings have grown more nervous about the stickiness of the supply disruptions and their impact on prices.

“If you’re a business, this is proving to be a bigger challenge than I think most people were anticipating, and that’s very much on their minds,” he said. “We do, though, see that these things are related to specific conditions related to the pandemic, combined with this strong rebound in demand.”

Most experts still expect supply chains to catch up and the inflationary pressures to ease. But in this unique recovery from what was a unique recession, no one has a lot of insight into how long that will take.

“Honestly, I don’t think I can give you an accurate answer. If you’d asked me six months ago, I would have told you, ‘In about six months time.’ My response today is, ‘About six months time.’ We just don’t know,” economist Stephen Brown of Capital Economics said.

“That’s because it’s reliant on the wave of the coronavirus in those countries that are producing these things,” he said. “Asia has been slower to vaccinate than Canada, the U.S., the U.K. … Those countries are now catching up on the vaccination rate. So I think this time, maybe, people are a bit more confident that we’ll see these supply disruptions at least start to ease in around six months.”

Regardless of exactly how long the disruptions last, the nature of the price pressures – coming from constraints on supplies – is also an important distinction in terms of the policy response by central banks, which might normally raise interest rates to try to quell inflation.

“From the policy point of view, it’s more enlightening to call this a supply-shock rise in the price level, rather than use the word ‘transitory.’ Because what’s key is that this isn’t being driven by overheated demand, which needs slowing by a central bank raising interest rates. It’s a side effect of COVID, which is reducing the availability of goods because factories and ports have been shut down around the world as workers became ill,” said Avery Shenfeld, chief economist of Canadian Imperial Bank of Commerce.

“The same thing that will improve demand growth, which is COVID fading away around the world, will also take care of some of the inflation pressure, because goods will become more available again.”

Mr. Macklem has described the drivers of inflation as “fairly narrow” and largely related to the pandemic. “Were they to broaden and be sustained, that would be more of a concern,” he said.

That’s precisely what worries a lot of the bank’s critics on inflation. There are other factors surfacing, beyond the immediate base effects and pandemic-related supply hiccups, that could point to more pervasive inflation pressures even after “transitory” fades away.

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The chief executives of two of Canada’s biggest banks publicly warned the Bank of Canada this month that it may be making a mistake by treating the inflation scare as largely temporary.

Royal Bank of Canada CEO Dave McKay highlighted the hundreds of billions of dollars of excess savings that have built up during the pandemic in consumer and business bank accounts, suggesting the money might fuel a much bigger surge in demand than the Bank of Canada is prepared for.

Louis Vachon, CEO of National Bank of Canada, expressed concern that the troubles with supply chains may reflect some “more permanent” shifts in global supplies, tied to geopolitics and climate change policies. Both bank CEOs also worry about labour shortages that have emerged in the recovery, saying that those could translate to rising wages that would create much more entrenched inflation.

Ultimately, there are still a lot of questions about to what degree the unusual inflationary factors that have arisen in the pandemic may evolve into more permanent structural changes in the Canadian and global economies. The danger is that in focusing on the transitory issues driving the bulk of this year’s surge in prices, central banks may be overlooking some more problematic and longer-lasting pressures simmering underneath.

“There are some longer-run, structural changes that are taking place that are not transitory,” former Bank of Canada governor David Dodge argued. “I think it would be very unwise for central banks and government to firmly plan on us returning to the status quo.”

Mr. Dodge suspects the natural rate of inflation could wind up higher than it was, although it’s a view that’s “loosely held” for now.

In contrast, economist David Rosenberg of Rosenberg Research says the key underlying factors, says the key underlying factors that had dampened inflation in advanced economies before the pandemic – high public and private debt burdens, aging demographics, the emergence of disruptive technologies – are still intact. He argues they point to continued weak inflation, not higher inflation, once the global economy puts the pandemic behind it.

One factor that could change that, he acknowledges, is the evolution of employment. He said if large numbers of people who stopped participating in the labour market during the pandemic decide to stay on the sidelines permanently, labour shortages and rising wage pressures will become the inflation story in the next several years.

“If you’re talking about an inflationary future, it’s really about are we going to go into a wage-price spiral,” he said. “It’s really going to come down to the extent to which there have been profound changes to the labour market.”

Another factor is that steep inflation can be a self-fulfilling prophecy. The mere expectation of higher costs can drive companies to set prices higher and employees to negotiate better wages. The Bank of Canada’s own quarterly consumer and business surveys, published just last week, both show rising expectations for inflation over the next year.

“People look backwards, they see high inflation, they anticipate higher inflation in the future, and that just propels inflation even more,” said Luba Petersen, a professor of economics at Simon Fraser University.

It could take considerably longer than a few months before the full impact of these competing structural factors becomes clearer.

“It’s becoming more evident that this period of perturbation, if you will, is going to carry on. Transitory means at least until the middle of 2022, maybe until the end of 2022, rather than the ‘next six months’ interpretation that had been given a few months ago,” Mr. Dodge said.

“The question is, are we entering into a new inflationary future?” Mr. Rosenberg said. “Not whether it’s two months or three months, or even two or three quarters.”

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