Bank of Canada releases latest interest rate decision – October 27, 2021

Well, good morning. And for those of you who are here in person, welcome back to the Bank of Canada. I am very pleased to be here with you in person to discuss our policy announcement this morning and the Monetary Policy Report. It seems fitting that we're back together in this somewhat normal setting as we conclude one part of our extraordinary monetary policy response to the pandemic. This morning, we announced that after more than a year and a half, we are ending quantitative easing. We undertook QE first to help restore market functioning and then to boost our monetary policy stimulus. Since last October, in line with progress in Canada's economic recovery, we've been gradually reducing the pace of our QE purchases. With the economy once again growing robustly, Governing Council judged that QE is no longer needed. This means we will stop growing our holdings of Government of Canada bonds. But let me remind you that the significant stimulus we have injected through QE remains in place. We're just not adding to it. We call this the reinvestment phase. In this phase, we will purchase bonds only to replace those that are maturing, so that our overall holdings of Government of Canada bonds remain roughly stable over time. The end of QE comes as increasing vaccination rates are enabling continued progress in the economic recovery in Canada and around the world, while new complications from reopening continue to crop up and they are boosting the prices of many globally traded goods. I'm struck by how much progress our economy has made since the start of the crisis. We've come a long way. And our forecast is for an increasingly healthy economy, even if these complications are going to be with us for a while.

Let me expand on these themes and say a few words about the key points of the Governing Council's deliberations. Of course, we discussed the evolution of COVID-19. While vaccination rates are generally very high in Canada and the number of cases in most regions has declined, the pandemic continues to disrupt our lives. Some of these disruptions were expected. We've never closed and reopened an economy before, so it was bound to be bumpy. But others, including labor market frictions and supply disruptions, are more pronounced than anticipated. Let me talk about each of those in turn. We've seen strong job growth in recent months. Many sectors that were hardest hit by lockdowns earlier in the pandemic rebounded strongly as Canadians were able to resume more normal activities. Strong job growth has reduced the very uneven impacts of the pandemic, particularly for youth and women. However, the recovery of low-wage jobs continues to lag. Many people are working many fewer hours than they would like, and a large number of people who have been unemployed for more than six months remains a concern. Slack remains in the labor market. But even as the unemployment rate is still well above pre-pandemic levels, job vacancies have risen sharply. This is unusual. Our recent Business Outlook Survey indicates that labor shortages have intensified in two areas. The first is shortages of skilled trades and digital workers. This is a challenge that existed before the pandemic as well. The second is more pandemic-related. As service businesses like restaurants and stores reopened this summer, many had trouble hiring workers quickly enough to meet the surge in demand. Part of this reflects the reality that it simply takes time for companies to find workers with the right skills and for workers to find the right jobs. Repeated closures in some sectors and the challenges of working in high-contact jobs during a pandemic may also be affecting the workforce. About half of the unemployed workers who responded to the recent Canadian Survey of Consumer Expectations said they're considering a move to a different industry.

Governing Council also spent some time discussing supply chain disruptions. The global shortages of semiconductors and other manufacturing inputs, as well as shipping and other transportation bottlenecks, are affecting production and delaying deliveries of many goods. While we highlighted some of these problems in our July MPR, they are more widespread and look to be more persistent than we anticipated. Quantifying the impact of these supply factors is difficult, but the implication is that there is likely less excess supply in the economy than we thought there would be. We now expect the output gap to close sometime in the middle quarters of 2022, which is earlier than we projected in July. Let me underline that there is more uncertainty than normal about the economy's productive capacity due to the very unusual circumstances of the pandemic. The combination of ongoing supply disruptions and related cost pressures, as well as higher energy prices, is putting upward pressure on many prices around the world. In Canada, inflation is currently running at about 4.5%. We now expect it to rise to close to 5% by the end of this year before coming back down to around the 2% target by the end of next year. In other words, we continue to expect that inflation will ease back, but relative to our July forecast, it's higher for longer.

We know higher prices are challenging Canadians and making it harder for them to cover their bills. I want to assure you that inflation is not going to stay as high as it is today, even if it's going to take somewhat longer to come down. The Bank of Canada is committed to ensuring that the price increases we're experiencing today don't become ongoing inflation. So far, measures of medium- to long-term inflation expectations remain well anchored on the 2% target, and overall wage pressures remain moderate. This suggests that the higher prices are not becoming embedded in expectations of ongoing inflation. As these forces play out, it's our job to bring inflation back to target, and I can assure you we will do that. In view of the continued excess capacity in the economy, my fellow Governing Council members and I judge that the economy still needs considerable monetary policy support. While we ended QE, we kept our policy interest rate at its lowest level and reaffirmed our commitment to keep it there until slack is absorbed so that the 2% inflation target is sustainably achieved. Based on our current projection, this happens sometime in the middle quarters of 2022. Let me conclude with some additional information on the end of QE and the shift to reinvestment. Following the announcement of our decision this morning, we issued a market notice outlining in detail the changes to our market operations. Because bond maturities are lumpy, we're moving to a monthly rather than a weekly target for our purchases. That target will range between $4 and $5 billion per month. This includes our purchases in both the primary and the secondary markets. As outlined in the market notice, to keep our holdings of Government of Canada bonds roughly stable, we plan to purchase roughly $1 to $2 billion per month in the primary market and roughly $2.5 to $3.5 billion per month in the secondary market. How long the reinvestment phase lasts is a future monetary policy decision. It will depend on the strength of the recovery and the evolution of inflation. But as I indicated in September, it is reasonable to expect that we will be there for a period of time, at least until we raise our policy interest rate. We will continue to provide the appropriate degree of monetary policy stimulus to support the recovery and achieve the inflation target. And with that, let me stop and answer your questions.

Well, Greg, we've tried to lay out in the report as clearly as we can the reasons why we think inflation will ease back down, as you suggested. We recognize that inflation is actually likely to move a little higher in the remaining months of this year. It's currently running around 4.5%. We think it's going to move up close to 5%, and then over the course of next year, we think it will come back down to 2% or around 2% by the end of the year. So what are the reasons? Well, we're facing a very unusual situation. We've never reopened an economy before, and I'm talking about here the global economy. With strong demand for goods around the world and production bottlenecks due to the fact that production is being disrupted by the virus, transportation ports are being disrupted by protocols, by closures. That combination has put considerable pressure on the prices of many globally traded goods. As we move forward, we do expect that those will ease. Vaccinations are working. People around the world are getting vaccinated. That should reduce the spread of the virus, reduce these production problems, reduce the labor shortages or shutdowns at ports. Companies are investing in logistics. That should also help cut through these bottlenecks. And on the household side, household spending is returning to a more normal composition. During the lockdowns, households couldn't buy a lot of the services they wanted to buy, so they've been buying more goods. Of course, goods have to be produced and shipped. But we are expecting as household spending patterns normalize, and we're seeing this, they're going to be buying more services and their purchases of goods will moderate. That'll take some pressure off global demand for goods. So for both those reasons, we do expect these pressures to ease off. There is a backlog. It's going to take some time. We've indicated in this report it's going to take longer than we previously thought, but we do believe there are good reasons why those pressures will ease and inflation will come back down over the course of next year. We are watching closely inflation expectations and wage costs for any signs that these increases in prices of globally traded goods start to spread and lead to more generalized and more ongoing inflation. So far, we're not seeing that. But if we do see that, we will certainly take action and adjust our monetary policy stance further to deal with it and bring inflation back to target. So bottom line is, Canadians can have confidence that inflation will come back to target.

Okay, there's two parts to that question. So the inflation pressures we're seeing are largely being driven by sharp rises in the prices of many globally traded goods. And in fact, if you look at Chart 9 in the Monetary Policy Report, it does a good job of breaking it out. And what you can see is, as I just mentioned, inflation is currently running at about 4.5%. More than two percentage points of that is coming from goods where we can identify clear evidence of supply disruptions. There's another more than a percent coming from the rises we've seen in energy prices, oil prices in particular. And as I just outlined, we think there are good reasons for those pressures to diminish going forward. So inflation should come down. QE and our monetary policy, basically the package of monetary policy tools, have really been working hard to support the recovery and alleviate the considerable excess supply we have in the economy. It's been working. This economy has come a long way back. We still think there is a considerable amount of excess supply in the economy, less than we thought there would be last July, but when you look at labor markets, when you look at prices in services broadly, you can see that this excess supply remains. What we're seeing with today's announcement is, with the progress we've achieved in the recovery, with that amount of excess supply diminishing, we're getting closer to a full recovery. We don't need QE anymore. And we've also, in our projection, moved forward the timing of when we expect the output gap to close or slack to be absorbed.

Well, let me talk about first of all what we're doing. We took an important step today. We ended quantitative easing. We've also, as I just mentioned, indicated that in our new forecast, we now expect slack to be absorbed sooner. And that signals that we will be considering raising interest rates sooner than we previously thought. So interest rates don't need to be as low for as long to get that full recovery and get inflation back. In terms of these pressures we're seeing globally on many goods prices, I was in Washington a couple of weeks ago. There was a very good discussion of how these are playing out around the world. I think everybody in the room was quite seized with these. In different countries, they are playing out a little differently, but there's no question you couldn't come away from the IMF meetings without the sense that this is very much a global phenomenon. And there was considerable attention from major countries looking at what they can do to try to relieve pressure in ports, in logistics, and try to help get the throughput, improve the throughput, and relieve these pressures going forward.

Jordan, let me underline two messages. The first is, I want to assure Canadians that we can and we will keep inflation under control. We understand what our job is. Our job is to make sure that the price increases we've seen in many globally traded goods don't feed through and translate into ongoing inflation. And we're going to do our job. The second message is that as this recovery has progressed, we have been adjusting our monetary policy tools so that the 2% inflation target is sustainably achieved. As I've gone over now a couple of times this morning, we ended QE. We've also moved forward the timing of when we think we would be considering raising our policy interest rate. We're also watching measures of inflation expectations and wage costs very closely. And really, we're doing that to look for signs that these increases in global prices are spilling into, feeding through to broader wage and price inflation. We're not seeing that. But if we do see that, if we do begin to see that, we will adjust our tools to bring inflation back to target. So the message to Canadians is, we have been adjusting and we will continue to adjust to bring inflation back to the 2% target, and Canadians can have confidence that we will get there. Yes, it is going to take a little bit longer. These global supply issues, shipping bottlenecks, are proving to be more severe and persistent than expected, but there are good reasons for those to ease off. And if there are new developments, if we start to see that feed through, we will accelerate our actions to bring inflation back to target.

Well, as I highlighted in my opening remarks, we are seeing everything about this pandemic is very unusual, and certainly what we're seeing in labor markets is very unusual. Through the pandemic, not only did we see huge loss of jobs, the distribution of those job losses was highly uneven. The good news is, as the recovery has progressed and particularly over the summer with the reopening of many services sectors, those very unequal impacts we've seen in the labor market have diminished substantially. They haven't gone away entirely, but particularly for youth and women, we saw very strong employment growth over the summer, and so those disparities are narrowing. The other thing we're seeing, though, particularly over the summer, is even as the unemployment rate remains well above pre-pandemic levels, we're seeing sharp rises in vacancies, and in our Business Outlook Survey, more reports of labor shortages. That is an unusual situation, to see both high unemployment and high vacancies at the same time. It partly just reflects the reality that you can only hire so many people at once. And one of the things that this pandemic has done, many of these people lost their jobs more than a year and a half ago, so it's a long period of time. Companies are looking for new employees. They can't just call back the ones they had. Many of them have moved on to other jobs. So there is a certain friction in the labor market that's going to take some time to work through. Because of these unique circumstances of the pandemic, we are looking at a wider than normal range of labor market indicators. And this morning, actually, we just put on our website a new dashboard with a broad range of labor market indicators. There are different pieces of that. There's your traditional aggregate unemployment, labor force participation, employment rate. There are a number of measures looking at the inclusivity of the labor market recovery. And then there are also a number of measures looking at job characteristics, and those particularly focus on your question and what sort of pressures we're seeing. And if you look at the various wage measures, they're actually still somewhat below their pre-pandemic levels. They haven't even come all the way back. It wouldn't be surprising to see them move up a little further, but certainly so far, we don't see these global price pressures showing up in broad-based escalation in wages. That is something we're going to watch closely, but as I said, so far we haven't seen it. And by putting this dashboard up on our website, we're showing you all the things we're looking at, so you can see them at the same time we're seeing them.

Of course, it's all going to depend on exactly why it's stronger. But what I can assure Canadians is that we have been and we will continue to adjust our monetary policy tools with the aim of achieving our 2% inflation target on a sustainable basis. And what you saw with this morning's announcement, we now think the economy slack will be absorbed more quickly than we previously thought. We now think it'll be around the middle quarters of next year, so in months, sometime between April and September. And that is signaling that we will be considering increasing our policy rate over that period. That's our plan. We believe that plan is sufficient to bring inflation back to target and at the same time support a full recovery. If there are new developments that are pushing inflation away from our target for longer, I think yes, you can absolutely expect that we will be continuing to adjust our policy settings to ensure that we get inflation back to target.

Really, the policy measures we've taken today and the outlook we've provided are consistent with getting the economy back to a full recovery and inflation back to target. That's certainly our objective. As I just responded, you can't summarize the entire labor market with one statistic. The unemployment rate is an important one, but really, in assessing the health of the labor market, we do need to look at a broader range of indicators. And we've published a dashboard to show everybody what we're looking at this morning on our website. When you look at that dashboard, what you see is that the labor market has come a long way back from where it was. The unemployment rate has come a long way back. The employment rate has come a long way back. The very unequal impacts have diminished. There are still, though, a number of labor market indicators that do suggest there continues to be a fair amount of slack in the labor market. The unemployment rate itself, the employment rate, and if you look a little deeper, there's still a large number of Canadians long-term unemployed, more unemployed for more than six months. The recovery in the employment of low-wage workers is lagging. It's still more than 5% below their pre-pandemic level. And the other one I would point out is if you look at hours worked, it's certainly come back, but there is some space for further increases in hours worked. So overall, we still believe there is slack in the labor market. And as we move forward, we have seen job growth with high vacancies, with people looking for work. We do expect to see continued job growth and continued growth in hours worked. And that is going to be key to getting us to a full recovery and getting us back to a healthy labor market overall.

Well, first of all, Greg, I would highlight that you need to think of QE as part of a package of exceptional monetary policy tools. And together, they've been very effective. They've worked. And today, we've kept in place our exceptional forward guidance, but we've ended QE. How does QE work? QE and forward guidance really worked together. Forward guidance, having reached the effective lower bound for our one-day overnight interest rate, we used forward guidance indicating that we expected interest rates to remain low for a considerable period of time to push yields down further at the yield curve. And those are actually the maturities where people borrow. Those are the maturities where people don't get one-day mortgages; they get three-year mortgages, five-year mortgages. Similarly, companies borrow more at three, five, ten-year maturities. So the forward guidance was helpful in taking out any uncertainty and pushing those yields down. Quantitative easing is an important tool to reinforce that. It kind of puts your money where your mouth is. We were buying bonds across that maturity spectrum, driving up their prices and further lowering their yields. And together, forward guidance and quantitative easing have been very effective in lowering yields across the yield curve. With the considerable progress we've seen in the recovery, today we ended QE. And as you're well aware, for some time now, we have been gradually reducing our purchases in a sequence of gradual steps. Today, we took the final step. We don't think we need QE anymore.

Well, I think we've been pretty clear. Our exceptional forward guidance remains. We reaffirmed that we will hold our policy rate at the effective lower bound until economic slack is absorbed so that our 2% inflation target is sustainably achieved. We indicated today in our Monetary Policy Report and in our policy statement that we now expect slack will be absorbed in the middle quarters of next year, so in months, sometime between April and September. And what that signals is that right now, when we look at our forecast, consistent with our forward guidance, we'd expect to be considering raising interest rates in that time period.

Well, first of all, let me just underline that bond buying is an alternative way to lower interest rates when you're at the effective lower bound. There is nothing different about bond buying. It's part of a package of monetary policy tools. And by lowering interest rates, we were providing important support to Canadians and Canadian businesses through this pandemic. We were lowering their borrowing costs. That was reducing their interest expense. And it also encourages people to spend because it's less expensive to take on credit and spend. That is critical to supporting the recovery. What causes ongoing inflation is ongoing excess demand in your economy. Right now, we actually think there is excess supply in the economy. I've outlined a number of indicators that suggest we continue to be in excess supply. And in order to get inflation sustainably back to 2%, we need to get back to a full recovery. So I really want to sort of disabuse you of the idea that there is any sort of direct effect between bond buying and inflation. Bond buying is part of a package of monetary policy tools we use to lower interest rates. That's important to supporting the recovery. And it's worked. It's working very effectively.

So, I mean, if you look at our outlook, we have by any standard robust growth, both globally and here in Canada. We do expect as the Canadian economy gets close to potential output, we have some excess supply, so we need some above-potential growth right now to close that. As you get closer to potential, we expect to see growth moderate. That's because we will be getting into that zone of full recovery. In terms of what we're seeing and how this has changed since July, in July we did expect to see a strong second half of recovery. We are seeing that. Demand is playing out largely as expected. What has changed since July is that these global supply chain issues, these shipping bottlenecks, are looking to be both more severe and more persistent. And as I mentioned, the frictions we're seeing in this very rapid reopening are more intense than we expected. For both those reasons, we think the supply capacity of the economy is more limited. And the degree to which it is limited peaks in the fourth quarter of this year. Over the course of next year, as we globally work through these supply bottlenecks and global production issues, we expect that supply capacity will gradually come back into play. However, given that we expect a pretty strong continued recovery in demand, the output gap closes now sometime in the middle quarters of next year, a bit earlier than we had in July. And even with that, yes, this supply capacity is coming back, but demand will have caught up, and so we'll actually be in a little bit of excess demand after that. Does that answer your question?

So, yes, the assumption that we have about what people will do with their excess saving is the same in this projection as it was in July. Let me first of all explain what's in there, because it's important to explain what's in there. Built into the projection is the view that Canadians' consumption patterns will go back to where they were pre-pandemic. So the savings rate has been unusually high. We think that savings rate will come down to around where it was before the pandemic. In addition to that, so right there, you're going to get, in other words, our consumption is going to come back to its normal level relative to our spending, so we will have less savings. Now, with respect to the extra accumulated savings that Canadians have accumulated through this period, our assumption is that 20% of that will be spent. The rest will either be invested in housing, paid down debt, or invested in the market. So we've got already a lot of consumption growth indeed in our projection. Consumption is really the leading driver of this projection. So there is really a lot of strength built into our consumption profile in the projection. Could it be even stronger? Yes, it could be even stronger. Could Canadians decide to spend more of that? They could. We highlighted that as a risk. But when we look at our projection in its totality, we believe the risks are roughly balanced around the projection we've laid out, both for GDP growth and for inflation. And that reflects the fact that yes, it is a risk that Canadians might spend more of that excess savings. There are some downside risks as well. Exports could be weaker. You could see a more rapid tightening of global financial conditions. And the reality is, we're still living with this virus. Vaccinations are proving very effective, but there is still the risk of new variants, the risk of new issues arising. So when you look at our projection, we've got strong growth. It is consumption-led. We view that as balanced. And with respect to this consumption risk, the other thing I would highlight is that it's probably a fairly slow-moving risk. We will start to get a sense of whether consumption is even stronger than we thought because people are spending that extra savings. So that is something certainly we'll be watching going forward. But as I said, when you look at that risk against the other risks, we think overall the projection is balanced.

Thank you very much. Really good to see you all back in the Bank of Canada.