The central bank’s five-year inflation-targeting mandate is due for renewal this year, with few signs that a major overhaul is underway.
But Macklem could lean towards design and communication changes to the 2 percent target, perhaps focusing on labor market measures or placing more emphasis on the inflation range allowed by the Bank. from Canada. This could give it more flexibility to address the economy’s underperformance at a time when other central banks are doing the same.
The Federal Reserve last year adopted what’s known as average inflation targeting – in addition to its dual maximum employment mandate – which allows the US central bank to exceed its 2% target, although that the developments of the last week suggest that there are limits to his tolerance. The European Central Bank is also in the midst of its biggest political overhaul in nearly two decades.
The options the Bank of Canada is likely considering in its review include the following:
Le statu quo
Canada’s central bank has been exploring the possibility of larger changes to the wholesale mandate to make its policies more responsive to the current era of low growth, and the COVID-19 pandemic has only accentuated that goal. But Macklem could argue that the existing mandate already provides the necessary flexibility.
Since the 1990s, the bank has focused closely on one goal: to maintain price stability. The aim was to keep inflation within a range of 1% to 3% as much as possible. Operationally, this means aiming for a target of 2% over the central bank’s forecast horizon, a period of around two years.
There is still a lot of leeway. The bank has the option of delaying the return of inflation to target beyond the two-year period. Macklem and his officials also have the discretion to give more weight to some risks than others. In a world just emerging from an unprecedented crisis, for example, tightening too quickly is seen as a greater political risk than having inflation slightly faster than the target.
The Bank of Canada is currently using some of this flexibility to keep emergency stimulus levels in place.
In its latest forecast released in April, officials forecast inflation at 2.4% in the last quarter of 2023, a rare deviation from the target in nearly three years. Macklem also began to hint at the use of the central bank’s 1% to 3% “inflation-control range” as a policy tool, a departure from recent practice.
But the explanation risks becoming a bit obscure as Macklem tests the limits of his tenure.
On the one hand, there is no indication yet on when the bank expects inflation to return to target. Meanwhile, inflation that hit 3.6% – the highest in a decade – associated with the Bank of Canada’s quantitative easing program has become a political issue, with the main opposition Conservative party already calling into question. question the governor’s actions.
For political coverage alone, Macklem might want to codify some of the adjustments he has already put in place.
“He might want more formal flexibility to do what he seems to want to do right now,” said Don Drummond, former chief economist at the Toronto-Dominion Bank who has held senior positions in the service of the Toronto-Dominion Bank. finance when inflation targeting was implemented in the early 1990s.
Macklem could incorporate a new language that is already at the heart of his political discourse. Since last July, for example, bank officials have promised not to increase borrowing costs until inflation has returned “sustainably” to its target. By sustainable, officials mean inflation above 2 percent is no longer sufficient to trigger a response; the economy will also need to have relatively tight labor market conditions.
Deputy Governor Tim Lane said this month that the differences between the mandates of the Federal Reserve and the Bank of Canada diminish once that nuance is taken into account.
“Even though we don’t have a mandate for maximum employment, at the same time we do take labor market conditions into account a lot in our assessment of when inflation is sustainably on target,” Lane said at the time. of a press conference on June 10.
Another option is to add explicit labor market measures or language to the mandate.
The Bank of Canada is already placing greater emphasis on a “full” labor market recovery as it considers reducing emergency stimulus levels, and is focusing in particular on the uneven impact of the pandemic on groups such as women and youth.
“The biggest question for me is whether they will put more emphasis on the job market, because we hear them talking about it more than in the past,” Beata Caranci, chief economist at the Bank, said by phone. Toronto-Dominion.
Asked about the renewal of the inflation mandate at a press conference on June 16, Macklem said consultations with the public showed that “consensus employment should be part of the thinking, part of the framework and that’s something that we took to heart ”.
The Bank of Canada could prioritize certain indicators, like the participation rate, or start forecasting unemployment like in the United States to emphasize the importance of the job market, Caranci said.
During a reappointment exactly twenty years ago, the Bank of Canada took steps to reduce the size of the inflation band and give more weight to the 2% target.
Benjamin Reitzes, rate and macro strategy strategist at BMO Capital Markets, believes the pendulum could swing backwards, giving the central bank more flexibility to sometimes overshoot.
“It’s really just a subtle change but offers a little more flexibility to run a bit longer if needed,” Reitzes said via email. “The language can be a bit tricky, but should be very doable. ”