BoC’s Macklem sees ‘downward pressure’ on inflation as goods and services rebound outpaces consumer demand

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The Bank of Canada expects consumer demand to recover more slowly than output as the economy claws its way back from the COVID-19 crisis, a combination that could put “a lot of downward pressure” on inflation, Governor Tiff Macklem said Monday.

In a speech that took on a less optimistic tone than his predecessor, Stephen Poloz, the new Bank of Canada chief warned that after the initial economic bounce from the reopening of a shuttered economy, the subsequent recuperation phase “will likely be prolonged and bumpy, with the potential for setbacks along the way.”

He reiterated that the bank doesn’t intend to further lower its key interest rate – now at a record low 0.25 per cent – into negative territory. However, he indicated the bank is now leaning on its government- and corporate-bond-buying programs, put in place to help stabilize financial markets earlier in the pandemic, to serve a new role of providing monetary stimulus to help fuel growth and restore inflation toward the bank’s 2-per-cent target.

“Our main concern is to avoid a persistent drop in inflation by helping Canadians get back to work,” Mr. Macklem said in his address, delivered by video conference to a countrywide audience of the Canadian Clubs.

“With market functioning restored, these [bond] purchases are working through more channels to deliver stimulus,” he said. “Any further policy actions would be calibrated to provide the necessary degree of monetary policy accommodation required to achieve the inflation target.”

In a press conference following the speech, Mr. Macklem wouldn’t say whether he anticipates enlarging the bond-buying programs as their purpose shifts to stimulating the economy – a policy strategy known as quantitative easing. He did, however, leave the door open.

“We certainly have options going forward,” he told reporters. “We can scale those programs. We’ve seen central banks around the world try other things – yield-curve control, forward guidance – these things are all in our tool kit.”

The speech was Mr. Macklem’s first as Governor, after taking office June 3. He delivered it a little more than three weeks before the central bank’s July 15 interest rate decision and quarterly Monetary Policy Report – a much-anticipated document in which the bank will formally update its economic outlook for the first time since the pandemic began.

“It’s fair to say there’s been a noticeable change in tone from the Bank of Canada as we move from the Poloz to Macklem era,” said National Bank of Canada economists Taylor Schleich and Jocelyn Paquet in a research note. “He made it clear that the exit from the extraordinary stimulus currently being provided is a long way off.”

Canada’s consumer prices index inflation has fallen dramatically in the crisis, coming in at -0.4 per cent in May, the first negative reading since the 2009 financial crisis. But traditional inflation gauges such as CPI have been wildly distorted by COVID-19 containment measures, which forced dramatic changes to consuming patterns. Mr. Macklem told reporters that research by the Bank of Canada and Statistics Canada suggests that inflation experienced by consumers during the shutdowns is probably higher than the official readings, “although there’s not a huge gap.”

In his speech, he said the bank still expects economic growth to resume in the third quarter. However, “It will be important not to assume that these growth rates will continue beyond the reopening phase,” he said.

“It will be crucial to understand how much supply and demand have been damaged by COVID-19, and how both will recover in the coming quarters.”

Mr. Macklem said that supply will face its own constraints, as some sectors and regions will reopen slower and less fully than others, and supply chains and exports will remain hampered. However, the bank believes the blow to consumer spending power and confidence is likely to outweigh the loss of productive capacity.

“If, as we expect, supply is restored more quickly than demand, this could lead to a large gap between the two, putting a lot of downward pressure on inflation.”

Mr. Macklem said that with the economy “at least stabilizing” after the depths of the coronavirus-related shutdowns, the Bank of Canada is now in a position to produce new economic and inflation forecasts in the July report – which it last did in January, before the crisis hit.

“We expect to be able to provide a central planning scenario for output and inflation, with a discussion of the main risks around that scenario,” he said.

“A ‘central scenario’ is going to look a lot like a forecast,” he told reporters following the speech. “We’re calling it a ‘central scenario’ to really underline that there is an unusual amount of uncertainty around it.”

“That will lay down a track,” he said. “We will be monitoring incoming information relative to that track going forward.”

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