For many Canadians, this is the first time they experience inflation. For the past 30 years, the Bank of Canada (BoC) successfully kept the inflation rate below 2.91%.
On the other hand, Canadian baby boomers have recollections of inflation coming in two waves, during the 1970s and 80s, peaking at 12.9% in 1981.
What happened then?
In 1973, damaging weather created a global food shortage and a stoppage on OPEC oil drove energy prices up. Several years later, a second energy crisis was brought on by the Iranian Revolution in 1979.
While the drivers of high inflation are similar — global circumstances pushing up food and energy prices — inflation today isn’t expected to climb as high or be as persistent.
Why?
- Different Environment: existence of safeguards such as mortgage stress tests, strong economic growth, tight labor market, historically low unemployment, economy that’s more sensitive to interest rates vs. 80s (record high debt-to-disposable income ratio).
- New Mandate: It wasn’t until 1991 that the BoC was given the role to oversee target inflation and guide monetary policy.
- Different Tools: For most of the 20th century, economists believed inflation could be managed by controlling the amount of money circulating in the economy. However, central banks found this tactic to be unsuccessful. In 1982, the BoC announced it would no longer target the money supply and instead would turn its focus to interest rates.
- Delayed Reaction: Central banks, including the BoC, were historically hesitant to hinder economic growth through higher interest rates. Their delayed reaction to raise interest rates in the 70s and 80s allowed inflation to become entrenched. As a result, interest rates in the 1980s eventually peaked at 21%.
Although the BoC has been hesitant in raising the key interest rate, it has acted faster and more forcefully than in the 70s and 80s. According to economists and country officials, Canada has learnt from history and is currently making the necessary adjustments, targeting about 3% inflation by the end of 2023.
