Bank of Canada missteps helped fuel today’s inflation

From the Fraser Institute

By Herbert Grubel and John Greenwood

The correlation between the quantity of money and inflation shown is not perfect but strong enough to justify the conclusion that Canada would have avoided the inflation starting in early 2021 had the Bank not increased the money supply so dramatically during the first year of the pandemic.

According to Statistics Canada’s latest consumer price index report, in February the annual inflation rate fell to 2.8 per cent, raising the prospect of interest rate cuts by the Bank of Canada sometime this year. “Inflation is caused by too many dollars chasing too few goods” used to be the traditional diagnosis of the cause of inflation, prompting central banks to fight it by slowing the growth of the money supply. This approach is based on what is known as the “monetarist” theory of inflation, which suggests that supply shocks such as those associated with the COVID pandemic do not cause inflation but only a temporary increase in the price level, which is reversed once the cause of the shock ends—unless the money supply has increased.

In recent decades, central banks have fought inflation using interest rates instead of monetary growth. This switch followed the postwar success of Keynesian theory, which blames inflation on excess aggregate demand, which higher interest rates are supposed to curtail.

Targeting interest rates can work if central banks simultaneously pay attention to money growth, but too often they’ve failed to do so. Equally, targeting the money supply can create inflation-fighting interest rates. However, interest rate targeting in practice has a serious shortcoming. Aggregate spending is influenced by real interest rates while central banks can set only nominal rates and real rates are beyond their control because they cannot change inflation by any direct policy.

This important problem arises because, for example, a nominal interest rate of 6 per cent turns into a real rate of minus 2 per cent if the expected inflation is 8 per cent. At that rate, investors can borrow $1 million at 6 per cent, use the money to buy real estate, sell it a year later after it has appreciated at the expected 8 per cent, repay the $1 million and take home a capital gain of $20,000. In other words, the high expected inflation rate incentivizes consumers and businesses to borrow more, which results in faster money growth and risks even higher inflation.

The expected rate of inflation exists only in peoples’ minds and is determined by many factors. The Bank of Canada collects as much information as it can, drawing on the results of public surveys, the information contained in the prices of so-called Real Return Yields, and sophisticated economic models produced by the Bank’s economists. But these efforts do not result in reliable information, as evidenced by the uncertain and speculative nature of economic forecasts found in its economic updates.

The problems associated with not knowing the real rate of interest have persuaded some economists, called “monetarists,” to urge central banks to target the money supply including famed economist Milton Friedman whose monumental study of the history of U.S. money supply and inflation inspired many including David Laidler, emeritus professor at the University of Western Ontario, and Britain’s John Greenwood who maintains a large database he used to create the accompanying graph.

This graph shows Canada’s annual rate of inflation (measured on the left axis) and the annual rate of growth of the money supply (M3) (measured on the right axis) for the years 2014 to 2024 using data published by the Bank of Canada and Statistics Canada, which require little manipulation. The annual percentage change in the money supply is averaged over 12-months, as is done widely to smooth data that fluctuate much over short periods; and the resultant time series is shifted forward 18 months, to achieve the best fit between changes in money growth and changes in inflation in the monetarist tradition, which has found the lag to have been variable historically between 12 and 18 months. (Thus, the peak smoothed money supply growth rate of more than 13 per cent occurred in February/March 2021, but is shown as occurring in August/September 2022, some 18 months later and close to the peak of inflation in June 2022.)

The correlation between the quantity of money and inflation shown is not perfect but strong enough to justify the conclusion that Canada would have avoided the inflation starting in early 2021 had the Bank not increased the money supply so dramatically during the first year of the pandemic.

In 1994, John Crow, then-governor of the Bank of Canada, presented to a parliamentary finance committee a report on the economic outlook. One of the authors of this op-ed (Grubel) was at this meeting. In response to his question, Crow said that the Bank’s econometric forecasting model did not include data on the money supply but that he always looked over his shoulders to ensure it does not get out of line. If his successors had followed his practice, perhaps Canada’s present inflation would have been avoided.

But then it would not be possible to test the usefulness of the model, which draws on money supply growth data over the last 18 months to predict that inflation should fall to 2 per cent near year-end 2024 or early 2025.

If the prediction is realized, however, Canadians should not expect the lower inflation rate to result in lower costs of living. That would happen only if the Bank made the money growth rate negative, something history suggests is unlikely because it usually resulted in recessions. How much better it would have been if the inflation genie had never been allowed out of the lamp.

Authors:

Herbert Grubel

John Greenwood

Related Topics:#BankOfCanadaMissteps #FraserInstitute #HerbertGrubel #Inflation #InterestRates #JohnGreenwood #MoneySupply feature

Up Next

Canada’s inquiry into China’s election meddling begins with officer saying he dismissed warnings

Don't Miss

Economists miss the point about the carbon tax revolt

Todayville

Todayville is a digital media and technology company. We profile unique stories and events in our community. Register and promote your community event for free.

Follow Author

White House Reportedly Worried About Russia’s Sudden Momentum Months After Biden Declared Putin ‘Already Lost’ War

Censorship Industrial Complex / 4 hours ago

Jim Jordan Exposes Biden’s Censorship-Industrial Complex

Crime / 4 hours ago

Slovakian prime minister who opposed WHO Pandemic Treaty shot in assassination attempt

Automotive

Red States Sue California and the Biden Administration to Halt Electric Truck Mandates

Published on May 15, 2024

Todayville

From Heartland Daily News

By Nick Pope

“California and an unaccountable EPA are trying to transform our national trucking industry and supply chain infrastructure. This effort—coming at a time of heightened inflation and with an already-strained electrical grid—will devastate the trucking and logistics industry, raise prices for customers, and impact untold number of jobs across Nebraska and the country”

Large coalitions of red states are suing regulators in Washington, D.C., and California over rules designed to effectively require increases in electric vehicle (EV) adoption.

Nebraska is leading a 24-state coalition in a lawsuit against the Environmental Protection Agency’s (EPA) recently-finalized emissions standards for heavy-duty vehicles in the U.S. Court of Appeals for the D.C. Circuit, and a 17-state coalition suing the state of California in the U.S. District Court for the Eastern District of California over its Advanced Clean Fleet rules. Both regulations would increase the number of heavy-duty EVs on the road, a development that could cause serious disruptions and cost increases across the U.S. economy, as supply chain and trucking sector experts have previously told the Daily Caller News Foundation.

“California and an unaccountable EPA are trying to transform our national trucking industry and supply chain infrastructure. This effort—coming at a time of heightened inflation and with an already-strained electrical grid—will devastate the trucking and logistics industry, raise prices for customers, and impact untold number of jobs across Nebraska and the country,” Republican Nebraska Attorney General Mike Hilgers said in a statement. “Neither California nor the EPA has the constitutional power to dictate these nationwide rules to Americans. I am proud to lead our efforts to stop these unconstitutional attempts to remake our economy and am grateful to our sister states for joining our coalitions.”

While specifics vary depending on the type of heavy-duty vehicle, EPA’s emissions standards will effectively mandate that EVs make up 60% of new urban delivery trucks and 25% of long-haul tractors sold by 2032, according to The Wall Street Journal. The agency has also pushed aggressive emissions standards for light- and medium-duty vehicles that will similarly force an increase in EVs’ share of new car sales over the next decade.

California’s Advanced Clean Fleet rules, meanwhile, will require that 100% of trucks sold in the state will be zero-emissions models starting in 2036, according to the California Air Resources Board (CARB). While not federal, the California rules are of importance to other states because there are numerous other states who follow California’s emissions standards, which can be tighter than those required by the EPA and other federal agencies.

Critics fear that this dynamic will effectively enable California to set national policies and nudge manufacturers in the direction of EVs at a greater rate and scale than the Biden administration is pursuing.

Trucking industry and supply chain experts have previously told the DCNF that both regulations threaten to cause serious problems for the country’s supply chains and wider economy given that the technology for electric and zero-emissions trucks is simply not yet ready to be mandated at scale, among other issues.

Neither CARB nor the EPA responded immediately to requests for comment.

Nick Pope is a contributor to The Daily Caller News Service.

Originally published by The Daily Caller. Republished with permission.

Automotive

New Analysis Shows Just How Bad Electric Trucks Are For Business

Published on May 12, 2024

Todayville

From the Daily Caller News Foundation

By WILL KESSLER

Converting America’s medium- and heavy-duty trucks to electric vehicles (EV) in accordance with goals from the Biden administration would add massive costs to commercial trucking, according to a new analysis released Wednesday.

The cost to switch over to light-duty EVs like a transit van would equate to a 5% increase in costs per year while switching over medium- and heavy-duty trucks would add up to 114% in costs per year to already struggling businesses, according to a report from transportation and logistics company Ryder Systems. The Biden administration, in an effort to facilitate a transition to EVs, finalized new emission standards in March that would require a huge number of heavy-duty vehicles to be electric or zero-emission by 2032 and has created a plan to roll out charging infrastructure across the country.

“There are specific applications where EV adoption makes sense today, but the use cases are still limited,” Karen Jones, executive vice president at Ryder, said in an accompanying press release. “Yet we’re facing regulations aimed at accelerating broader EV adoption when the technology and infrastructure are still developing. Until the gap in TCT for heavier-duty vehicles is narrowed or closed, we cannot expect many companies to make the transition, and, if required to convert in today’s market, we face more supply chain disruptions, transportation cost increases, and additional inflationary pressure.”

Due to the increase in costs for businesses, the potential inflationary impact on the entire economy per year is between 0.5% and 1%, according to the report. Inflation is already elevated, measuring 3.5% year-over-year in March, far from the Federal Reserve’s 2% target.

Increased expense projections differ by state, with class 8 heavy-duty trucks costing 94% more per year in California compared to traditional trucks, due largely to a 501% increase in equipment costs, while cost savings on fuel only amounted to 52%. In Georgia, costs would be 114% higher due to higher equipment costs, labor costs, a smaller payload capacity and more.

The EPA also recently finalized rules mandating that 67% of all light-duty vehicles sold after 2032 be electric or hybrid. Around $1 billion from the Inflation Reduction Act has already been designated to be used by subnational governments in the U.S. to replace some heavy-duty vehicles with EVs, like delivery trucks or school buses.

The Biden administration has also had trouble expanding EV charging infrastructure across the country, despite allotting $7.5 billion for chargers in 2021. Current charging infrastructure frequently has issues operating properly, adding to fears of “range anxiety,” where EV owners worry they will become stranded without a charger.