Economic stimulus should have stopped sooner to tame inflation, says Bank of Canada

OTTAWA – Bank of Canada Deputy Governor Paul Beaudry said in retrospect that governments and central banks should have withdrawn stimulus earlier as economies recovered from the COVID-19 pandemic, which likely would have kept inflation in check.

In a speech at the University of Waterloo on Tuesday, Beaudry said a faster global withdrawal of fiscal and monetary stimulus during the recovery from the pandemic would likely have led to lower inflation.

Beaudry said fiscal and monetary policy in one country has spillover effects in other countries, which are not always taken into account.

One of the lessons from the global financial crisis in 2008-2009, he said, was that countries would have benefited from a more gradual withdrawal of stimulus because of spillover effects.

This lesson, he said, influenced policy decisions during the pandemic. Beaudry noted, however, that the COVID-19 economic crisis was different, and public health measures prevented supply in many sectors from keeping up as demand began to recover.

Bottlenecks arose in these sectors as a result of the surge in demand, driven by a combination of stimulus policies, closures and reopenings, as well as consumers moving away from services.

The vice-governor said the stimulus countries provided simultaneously through government support programs and lower interest rates had spillover effects worldwide and contributed to supply chain bottlenecks.

“It’s likely that a somewhat faster global (stimulus) withdrawal process could have made all countries better off,” he said.

At the same time, Beaudry said the stimulus measures contributed to a faster-than-expected economic recovery, with labor markets recovering six months earlier than after the global financial crisis.

“Fiscal policies have clearly prevented a worse outcome.”

Come on, Beaudry said the Bank of Canada is focused on clear communication with the public about its policy decisions to ensure that Canadians do not expect high inflation to last for long.

Central banks are generally concerned when people and businesses expect inflation to remain high, because those expectations could lead to even higher prices.

Beaudry also addressed concerns from some that the central bank would have to bring about a substantial economic slowdown or even a recession to lower inflation.

Beaudry said the Bank of Canada believes that people base their inflation expectations partly on past inflation and partly on central bank communications about where monetary policy is headed.

Statistics Canada released its consumer price index report for August earlier on Tuesday, which showed inflation slowing to 7.0 percent. Beaudry said that while inflation is moving in the right direction, it is still “too high.”

The deputy governor said the bank is committed to effective communication with the public about monetary policy to alleviate some of the heightened concerns about ongoing inflation.

“The bank is committed to keeping its communications clear, simple and focused on our inflation mandate during this difficult time,” he said, adding that the more effective the bank is with its communications, the more likely a recession can be avoided.

The deputy governor concluded by reiterating the bank’s commitment to bring inflation back to its two percent target, thereby fulfilling its mandate.

“We will continue to take all measures necessary to restore price stability for households and businesses.”

This report from The Canadian Press was first published on September 20, 2022.

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