Does the Bank of Canada calculate inflation correctly?

Inflation as measured by the Consumer Price Index (CPI) has fallen to 2.8%, but the Bank of Canada says core inflation measures, at over 3%, are still too high to trigger the reduction in the key rate. The central bank is wrong, according to a growing number of economists, including those at National Bank Financial, who believe that “real” inflation would be more like 1.9%. Explanations.




Why is the Bank of Canada overestimating inflation?

The central bank relies on two measures of basic inflation, the CPI-med and the CPI-tronq, explains Matthieu Arseneau, economist and co-author of the study from National Bank Financial.

Both of these measures exclude the most volatile elements of the overall CPI, such as food and gasoline. But they take into account the cost of mortgage interest and the cost of rent, which distort the picture. The increase in the cost of mortgage interest was the component that contributed the most to overall inflation in February.

The rising cost of mortgage interest will disappear with falling interest rates and the Bank of Canada has no control over the cost of rent, which is increasing because there is a shortage of housing while the population is in high demand. increase. Both of these things artificially increase the CPI.

What would be the true measure of inflation?

Excluding the cost of mortgage interest, inflation would not be 2.8%, but 1.9%, a level below the Bank of Canada’s 2% target.

Economists at the National Bank point out that the Bank of Sweden has since 2017 excluded the cost of mortgage interest, directly linked to the increase in interest rates, to prevent monetary policy from affecting the measurement of inflation.

The cost of rent could also be excluded from the measure of core inflation, because its increase is explained by a housing shortage and a sharply increasing population, not because the economy is overheating. By raising interest rates to combat inflation, the central bank helps increase the imbalance between housing supply and demand by discouraging housing construction.

If we also remove the cost of rent from the calculation, inflation stands at only 1.4%.

Why trust a new measure?

From 2001 to 2016, the Bank of Canada used another measure of core inflation, the CPIX. This measure excludes eight of the most volatile components of the core CPI and does not take into account the cost of mortgage interest. The IPCX is currently at 2.1%, much lower than the CPI-med (3.1%) and the CPI-tronq (3.2%) and almost at the Bank of Canada’s target.

National Bank economists believe that the IPCX should once again become the main measure of core inflation to avoid overestimating inflation and inflicting more damage than necessary on the economy.

Who is right ?

“Maybe they’re right,” says economist and Laval University professor Stephen Gordon, of economists who criticize the way the Bank of Canada measures core inflation. We need to debate it, he said. “But the Bank of Canada’s mandate is to target the CPI itself, it cannot ignore it and choose to follow another indicator. »

To monitor the evolution of core inflation, the Bank of Canada has reason to be cautious, according to him, “to avoid inflation rebounding after a drop in interest rates, which would be a nightmare” .

Everyone wants interest rates to fall, but the Bank of Canada does not have the mandate to avoid a recession, reminds the professor, but to fight inflation, even at the cost of a recession.


reference: www.lapresse.ca

Leave a Comment