For the first time in more than a decade, Canada has entered the world of negative inflation. But the Bank of Canada, whose primary mission is pursuing its 2-per-cent target and avoiding deflation at all costs, isn’t terribly alarmed.
Just hours after Statistics Canada reported that the April inflation rate had tumbled to -0.2 per cent – its first negative reading since the Great Recession of 2009 – Bank of Canada deputy governor Timothy Lane gave a teleconferenced speech in which he suggested that in light of the massive disruptions to consumer and retail patterns caused by the COVID-19 shutdowns, the consumer price index isn’t much of a gauge for what is really going on in inflation at the moment.
“These shifts mean that the standard consumer price index, [which is] based on the cost of a fixed basket of goods, is less meaningful,” he said. “Over all, the results indicate that the decline in inflation experienced by consumers may be less than indicated by the official CPI measure.”
Statscan quite openly acknowledges that its CPI measure is designed for a retail world that didn’t exist in the April lockdowns. The gauge is trying to measure prices in stores that aren’t open, in sectors that aren’t operating, in products that consumers can’t buy and businesses can’t sell. Some consumer goods and services that are part of the standard CPI measure are gone completely from the picture; others are hoarded. Things that used to be consumed in bars and restaurants are now only bought in grocery and liquor stores. Items that dominated shopping malls now dominate online orders. Barriers to supply and demand are all over the place.
It’s like looking at inflation in a fun-house mirror.
“We will also likely see some further changes in consumption patterns. These will affect the true underlying price pressures throughout the crisis and recovery period. During that adjustment, official inflation measures might be less informative than usual about capacity pressures,” Mr. Lane said.
Even in normal times, the Bank of Canada would look past the one big factor that fuelled the negative turn in CPI in April: a nosedive in gasoline prices that, we already know, has sharply reversed as commodity market panic faded and economic reopenings began. The benchmark price for North American oil has nearly doubled from its April lows; the average price at Canada’s gasoline pumps is up 20 per cent from mid-April. That’s reason enough for the central bank to treat the April inflation figure as a one-off.
Meanwhile, in the one place where Canadians have actually shifted a greater portion of their consumption during the lockdowns – the grocery store – there was plenty of inflation last month. Food prices were up 0.8 per cent month over month, and 3.4 per cent compared with a year earlier. The combination of higher prices and much increased demand for groceries was a key reason for Mr. Lane’s assertion that CPI in April probably undershot the inflation reality.
But the short-term deflation mirage doesn’t mean the central bank can nearly as easily dismiss disinflationary pressures that may prove more persistent in the recovery.
“We are likely to emerge from the shutdown with both demand and supply weaker than before,” Mr. Lane said. “The bank’s analysis suggests that the decline in demand, stemming in part from weaker business and consumer confidence, is likely to have a larger effect. On balance, there is likely to be downward pressure on inflation.”
This is where the inflexibility of standard inflation measures becomes less an aberration and more a serious analytical problem. The bank’s policy is anchored on a measure – CPI – that it won’t be able to trust in the coming months to give it a reliable signal of inflation and, by extension, of the strengths and weaknesses of the recovery. Even the bank’s three alternative gauges to measure “core” inflation – designed to filter out temporary and/or sector-specific mood swings – showed nearly a half-percentage-point spread in their April readings, indicative that these attempts to smooth the inflation distortions are also seriously challenged by the COVID-19 shock.
Mr. Lane said that the bank “is working hard” to understand how the shifts in consumer patterns brought on by COVID-19 could affect inflation measures, but that will be a moving target: It’s impossible to tell which shifts will be permanent, which will be partial, which will be passing. It’s something that Tiff Macklem, who takes over as the bank’s governor in two weeks, needs to make a top priority for the bank’s economic researchers. Otherwise, in the most crucial time in years for the Bank of Canada to navigate inflation and steer the economy clear of deflation, it will have to do so in a fog.
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