An exclusive sit-down interview with a Bank of Canada governor

This column by Armine Yalnizyan was originally published by the Toronto Star on Thursday December 8, 2022. Armine is a Contributing Columnist to Toronto Star Business featured bi-weekly.

Third in a five-part series on our year of extreme inflation.

This interview between Atkinson Fellow on the Future of Workers Armine Yalnizyan and Bank of Canada governor Tiff Macklem took place on Nov. 24, 2022. It has been edited for length and clarity.

Blame it on the fog. Sometimes it’s too thick at the Toronto Island airport to navigate. You can fly high, but you can’t safely land.

So it is on the day I’m travelling to Toronto from Ottawa to interview Bank of Canada governor Tiff Macklem. Turns out, he’s on the same flight, heading into a day of meetings in the centre of the universe.

It isn’t the most comfortable early morning start to the day for either of us. He has a bandaged, broken finger. I have a sore foot and am wearing sneakers — fluorescent ones — and jeans when I start trading notes on flight departures with the man tasked with saving the Canadian economy from inflation.

We commiserate about lack of anything unfolding to plan. As the hours pass, the fog holding, we determine we’ll make the best of it at the airport. After all, he has a deal to seal: assuring you, dear reader, that the plan he has set us on for navigating through the fog of the moment will work.

As we head into our conversation, he has just read the second instalment in this series on inflation, published a few hours earlier, which closes with the question: What if this plan isn’t working?

For a moment I worry that question will derail our exchange. His cool, calm demeanour bristles with emotion. “Of course it’s going to work. It’s The Plan. The Plan always works.”

I tell him to save that energy for the interview as we head into a quiet corner, where he provides many answers this seasoned economist has never heard, to questions we have on our minds right now. It’s a long exchange, which you can read word for word here. For me, these are the highlights:

First, the heart of his message: You need to believe inflation will end. Because if you don’t, it won’t.

“One of our big concerns is that high inflation, the kind of inflation we’re seeing now, seven per cent inflation, becomes entrenched. What does that mean, entrenched? It means everybody just gets used to it. They think it’s going to stay. And if that happens, it short-circuits our whole competitive system.

We want companies to be worried about increasing prices because they’re going to lose customers; but if everybody just comes to expect that prices are always going to go up, households are like, “Well, I don’t like this price, but it’s not going to be any better anywhere else. I’m just going to have to pay it”; and it’s going to be painful.

But if people believe inflation’s going to come back down and we’re going to get back to normal, then the competitive forces work. Companies think twice about raising prices because, well, ‘If we raise our prices, we’re going to lose customers. They’re going to go somewhere else.’

A wage-price spiral is one sign that high inflation is becoming entrenched. The way it works is: inflation goes up because the market’s very tight, companies can’t get enough workers. They raise wages and then that increases their cost structure. That then causes them to further increase their prices. Then wages go up, and then high inflation just becomes self-fulfilling.”

We all know the price of fuel, the price of food, the price of housing has gone up. And we just learned that wages are going up at roughly half the rate of headline inflation. So, as the Bank of Canada governor, how do you think workers should deal with losing purchasing power?

“I want to be clear on one point. It’s not the Bank of Canada’s role to tell businesses what they should pay their workers. It’s not our role to tell workers what wages they should ask for or what they should be prepared to work for. It’s our role to control inflation. And my message to Canadian businesses, to Canadian workers, to Canadian households has been the same: Don’t plan on inflation staying as high as it is. Plan for inflation coming down.

We’ve acted forcefully. We’ve raised rates rapidly. It’s starting to work. It is going to take some time to feed through the economy. Our own forecast shows it’s going to take a couple of years to get inflation back to target. But we’re resolute in our commitment to restoring price stability. And workers, businesses, households, should plan on that basis.”

That still doesn’t really address the problem of so many people losing purchasing power now, so I take the bull by the horns.

You’ve been accused of class warfare (by Lana Payne, the leader of Canada’s largest private sector union, Unifor) because you’ve repeatedly mentioned that higher workers’ wages will trigger more inflation; but we haven’t heard you mention anything about concerns over the rising profit share of the economy. What do you say to those accusations? Are you picking on workers and letting corporations off the hook?

“Look, I’m not picking on anybody. I would underline that there are a number of symptoms of an economy that’s overheated. One of the symptoms is the labour market’s too tight. And when companies simply can’t find enough workers to produce all the goods and services that people want to buy, that is inflationary. And so yes, we do have to get the labour market in better balance.

I take no pleasure in the idea that unemployment has to come up, but it is unsustainably low. Inflation is not all imported, from global factors. Our economy here in Canada is overheated. We can’t just wait for these global factors to dissipate and expect inflation is going to come back down. We do need to get demand and supply in better balance.

Another symptom of an overheated economy is that businesses are passing through higher prices very rapidly to households. Many businesses have seen that their labour costs have gone up, their shipping costs have gone up, their fuel costs have gone up.

But what we’ve seen is that companies are changing prices more rapidly. They’re passing through all those price increases to consumers very quickly, so their margins are not being squeezed. And our message to businesses is, as those global pressures ease back — for example, the price of wheat has come down, still high but it’s come off its peaks; shipping costs are coming down — we expect to see those passed through to consumers just as fast on the downside as we saw on the upside.

But you know why are companies doing that? They’re doing it because they can; because the economy’s in excess demand and they’re not worried about losing a customer because they can’t fulfil the demand of all their customers. That’s another symptom of an overheated economy.

So I’m not picking on workers; I’m not picking on businesses. I’m laying out the symptoms of an economy that’s in excess demand. It shows up in many places.”

Well I hadn’t heard that before, have you? But another phrase catches my attention: “unsustainably low unemployment.” Unemployment rates are indeed at half-century lows, running around five per cent. Depending on your perspective, that’s the goal of an economy — full employment; or, it’s the sign of an overheated economy and unsustainable. So I have to ask:

How high are you willing to let unemployment go to “tame” inflation?

“Look, we have an inflation target, and our mandate is very clear. Our primary objective is price stability.

We do want to do this in the best way possible and our mandate also indicates that we do have a role supporting employment. Actually, if we don’t have what economists call maximum sustainable employment, which is not — you can’t actually observe that directly. It’s more of a concept. But what it gets at is the idea that if we’re missing jobs, if we’re missing incomes in the economy, there’s not going to be as much spending and inflation’s going to go below the target. But if companies can’t find all the workers they need to find to produce all the goods and services people want, well, that is going to generate inflation.

So having the economy operating close to maximum sustainable employment and having low, stable inflation, the two actually go hand in hand. As I said, we don’t think 4.9, 5.2 per cent unemployment is sustainable.”

What about the sustainability of the inflation target itself?

We’re seeing widespread labour shortages (a movie now playing in every nation that saw a baby boom after the Second World War); supply chains that are becoming less heavily reliant on China and other low-wage jurisdictions; and a world where geopolitical turmoil and extreme climate events are becoming more frequent every year. Given each of these underlying shifts all tend to increase costs, could it be that — at least for a while — we are looking at a higher inflation target than two per cent?

(This may be the only moment in the whole interview that a cloud passes over Tiff Macklem’s eyes.)

“Let me answer that in two parts. First, yes, I think there are some headwinds. There are some forces. The world is moving forward. Some of those are related to the very unique circumstances of COVID. But even setting COVID aside, the aging of society has nothing to do with COVID. That would have happened anyways.

The increased geopolitical tensions we’re facing maybe were exacerbated by COVID, but also there are different views of society that has clashed. That is running up against trade, putting new restrictions on trade. Obviously, Russia’s unprovoked attack on Ukraine is — you’ve got a country that’s completely abrogated law, and as long as we have countries that are not respecting international law, it will be very difficult, if not impossible, to do business with them.

So these things are going to have an effect. We have to take those into account because we run monetary policy. And supply chains we were talking about earlier, they are going to get back more to normal, but increasingly, we don’t think they’re going to go back to the way they were before. They’re probably going to be shorter.

Companies are looking to shorten their supply chains. They want to make them simpler. They want to make them more standardized. They may want to diversify them a bit more. They’re going to carry more inventory because the experience of the pandemic combined with these geopolitical tensions, they realize they can get caught short.

So that is going to add cost. We’re not going to have these hyper-efficient supply chains now. They’re going to be more resilient. They’re going to work better. They’re going to be able to absorb things better but, you know, that will come with a cost.

And then climate change is going to create new costs. We’re seeing it. Harvests are more variable. Transportation is getting disrupted by climate events. So these things will add cost and things that we’ll have to take into account.

But I guess I want to come back to the second part. I don’t think that means you don’t want to return inflation all the way to two per cent.

The thing about two per cent inflation is that it’s really important that inflation’s low enough that people don’t have to worry about it. And two per cent is probably about as high as it can be without people having to worry about it because if you have permanently higher inflation, that means every year people have to worry about it.

And we also know that the economy just doesn’t work well with higher inflation. Inflation distorts things. It distorts decisions. It makes saving for retirement more difficult. It distorts our competitive system. The economy just doesn’t work as well so we don’t want to pay that cost year after year after year. We want to get back to two.

And from our perspective, yes, I think I’d say two things. Do I think the world could be more volatile than it was pre-COVID? Yes, I think that is a risk. But I think it’s going to be a lot less volatile than it’s been for the last two and a half years.

This has been an unbelievably exceptional period. We are going back to something more normal and we have a capacity to shape what’s happening in the future. For monetary policy, the best thing we can do is to get us back to more normal price increases, with inflation expectations clearly anchored on two per cent. That kind of normal environment is the best thing the Bank of Canada can do for prosperity.

And then I think there’s a range of government and business policies that need to address these other issues, whether it’s climate change, geopolitical tensions, trade.

These are all important issues for Canada. They’re not issues that the Bank of Canada weighs in on. These are issues for government.”

That’s important for everyone to remember: the Bank of Canada isn’t the only game in town in this fight against inflation. There are other ways to promote stability and prosperity, through policies by governments at all levels.

And now, time for some parting words.

What’s the most reassuring thing you can say to Canadians, or what hopeful signs do you see for the year ahead?

“I mean, this is a difficult time. We know that high inflation is painful to Canadians and we know that raising interest rates is making life difficult for Canadians. But my message to Canadians is, yes, there’s going to be some short-run pain; but we are going to get through this. We’re going to get to a better place.

The hopeful signs is … growth needs to slow. That’s not going to feel good, but as we get into the second half of next year, growth is going to pick up. We’re going to have a healthy labour market and we’re going to have low inflation. We’re going to be back to something a lot closer to price stability. Canadians are not going to have to continue to live with the anxiety of higher inflation.”

Hours later, the fog briefly clears. We take off for Toronto, get stuck in a holding pattern, then reroute to Ottawa. Right back to where we started, as the fog once again makes navigating a soft landing impossible. It feels a bit like a metaphor for the economic moment we are in.

Next week: Just how long could it take for The Plan to work?