MNI: Trudeau Deficits, Not BOC, Drove Covid Inflation- CD Howe

Justin Trudeau's massive deficit spending to shield the economy through the pandemic was the major cause of the following inflation burst rather than laxity from BOC Governor Tiff Macklem, according to a forthcoming paper by former central bank adviser David Andolfatto and St. Louis Fed senior economic policy Advisor Fernando Martin that MNI obtained. 

Rising prices were a result of the sudden need to borrow money for paying people to stay home rather than spread Covid, and the difficulties in raising taxes to finance unpredictable costs, according to the paper for the CD Howe Institute, which runs a shadow monetary council. Those programs cost about 12.5% of GDP in 2020 or CAD270 billion and were paid to more than two out of three Canadian adults.

“The price surge was less a monetary policy failure than the predictable outcome of unprecedented, unfunded fiscal transfers colliding with pandemic-era supply constraints. In those extraordinary circumstances, even the most proactive interest-rate strategy had little chance of averting – and may have actually undermined – the necessary economic recovery,” the authors wrote. 

Inflation peaked at 8.1% in June 2022 and the Bank didn't start hiking rates until March 2022, a full year after CPI moved above 3%, and Bank officials have expressed some regret they didn't hike act sooner. (See: MNI: Trudeau Privy Advisers Studied Sticky CPI, Higher Rates)

Criticism of the Bank "seems fair considering the repeated assurances made by Bank of Canada officials that inflation would be kept in check or would soon reverse," the authors said, arguing the reality provides a more forgiving view. 

“Fighting a global pandemic is in some ways like fighting a war,” Andolfatto and Martin wrote. Andolfatto is a Vancouver native who won a BOC fellowship in 2009 before working at the Fed and he now leads the economics department at the University of Miami's business school. 

"It is not clear how even a monetary policy-induced recession would have accomplished anything other than delaying the inevitable inflation dynamic," the paper said. 

QE policies that helped lead the Conservative Party to call for Macklem's firing actually supported the Bank's goal of boosting inflation as the economy slumped, something other central banks also took on, the paper said. 

"The monetary policy mistake, in our view, had more to do with a failure to communicate the considerations described above," the paper said, noting even now deficits remain elevated. "The COVID-19 crisis will not be the last emergency Canada faces. The question of optimal monetary-fiscal policy coordination in anticipation of the next crisis should be placed on the agenda for the upcoming review of the Bank of Canada’s monetary policy framework."