In a suburb of Toronto, two very different types of queues coalesce each day, not far from one another. One line is composed of weary people waiting for the Daily Bread food bank, the other of eager customers waiting outside Sanremo, a popular bakery known to sell out. In each case, the presence of a line sends a signal to the passerby. The first conjures up feelings of economic pessimism and anxiety, while the second tells a story of limited supply and overheated consumer spending. Both lines reflect the realities of Canada’s economy in a state of inflation: rising prices erode the ability of many Canadians to afford basic necessities like food, while too much spending chases too few goods.
In the context of inflation, economic signals and the expectations they generate matter. Expectations shape how consumers choose to spread out purchases, how businesses plan out investments, and how workers and firms negotiate wage increases. As these signals become internalized, the self-fulfilling nature of inflation sets in. This creates a tricky situation for policy makers, who must balance the need to provide immediate relief for those hit hardest by price increases with the need to walk in line with the Bank of Canada to reduce inflation expectations.
Addressing something as complex as inflation requires that we take time to understand the nature of the problem, including where it is hurting Canadians most and what is fueling it. Then, we can identify a set of concrete issues that can be tackled one at a time. This essay is an invitation to think again about inflation and the ways carefully crafted policy can provide immediate relief and long term stability for Canadians.
Where it’s hurting
Inflation has caused price increases across the Canadian economy, especially for essential goods. Major components of the Consumer Price Index (CPI) rose significantly in 2022, with prices of basic necessities such as food (+8.9%), shelter (+6.9%) and transportation (+10.6%) rising year-over-year.
These price increases were swift and painful for Canadians, who saw inflation rise from 1% in January 2021 to 8.1% in June 2022. Low- and middle-income Canadians have been hit the hardest, since they spend a larger portion of their income on basic necessities such as food, shelter and transportation. Unlike higher income groups, these households have fewer savings and less flexibility to modify consumption or cut discretionary spending, making them vulnerable to rising prices.
Canadians haven’t seen inflation like this since the 1980s, and for many this is the first time they’ve experienced a sudden erosion of their purchasing power. In large part, the stable inflation of the last few decades has been the result of inflation-targeting policies adopted by the Bank of Canada in 1991. It was then that the idea of taming inflation expectations became central to the effort of controlling inflation and protecting Canadians.
As consumer prices rose in 2021, expectations began to set in that inflation would exceed the 2% target. This drove the Bank of Canada to begin raising benchmark interest rates with unprecedented speed, going from 0.25% to 4.50% in less than a year.
Yet for many low- and middle-income families, this aggressive monetary policy does not make inflation disappear quickly. And with expectations of future inflation remaining high, Canadians are becoming more concerned about how much longer this inflationary period will last.
To fully understand the challenges low- and middle-income Canadians are facing and how to provide protection, it is important to understand the nature of this inflation and what is fueling it.
How we got here
The lockdowns and outbreaks of the Covid-19 pandemic caused widespread disruptions to global supply chains. In particular, China's zero-Covid policy limited workforces in ports and resulted in delays that increased freight costs from $1,362 USD per container in November 2019 to $9,628 in February 2022. Since shipping freight is the primary mode of transporting goods across the world, these rising costs affected Canadian firms and consumers who rely on imports.
Labour shortages in the United States caused further shipping delays. The number of ships waiting to unload rose from 2 in the summer of 2020 to a high of 82 in November 2021, and vacant trucking positions hit 80,000 in the US and 20,000 in Canada. Quarantines, lockdowns and mobility restrictions imposed by the Canadian government further constrained economic activity by limiting the ability of firms to produce.
In 2022, as supply chain bottlenecks began to stabilize, Russia’s invasion of Ukraine led to a rise in commodity prices around the world. While the Canadian economy experienced regional gains in places like Alberta and Saskatchewan due to rising oil and wheat prices, the overall effect of the war generated rising prices for consumers. Energy and transportation costs increased as Brent crude oil reached a 7-year high of $105 per barrel and uncertainty in global wheat markets plus shortages of fertilizers put upward pressure on the price of bakery and cereal products, which rose 11.5% year-over-year in 2022. Meanwhile, ongoing droughts in the Canadian prairies and Southwestern United States caused the year-over-year price for fresh vegetables and fruit to rise by 11% and 8%, respectively.
Within Canada, a post-pandemic economic reopening also contributed to inflation. The Canadian savings rate reached a high of 27.2% in the second quarter of 2020 compared to 2% in 2019. This was due to both a decline in consumption resulting from lockdowns, as well as government spending, which included $240 billion in direct support to individuals and businesses during the pandemic. This savings glut drove demand for goods when supply was constrained, pushing up inflation. High savings in combination with record low interest rates heated up the housing market, with average house prices rising from $565,800 in December 2019 to $811,700 by December 2021.
Interest rate hikes also contributed to rising prices for Canadian households, which have faced higher mortgage rates, further rent increases, and greater debt burdens. Canadian renters are dishing out 12.4% more for housing than they were in 2021, far outpacing Canada's inflation rate.
Meanwhile, unemployment rates are historically low as more Canadians retire and job openings surge. Employees are asking for and receiving wage increases to match the rising cost of living, and higher labour costs for firms are being passed on to consumers. In many ways, it is the very expectation that inflation will rise in the future that drives this positive feedback loop of wage and price increases.
Given the complex and interconnected nature of these inflationary pressures, the government has a difficult task ahead: protect Canadians who are struggling to afford daily essentials while addressing the self-fulfilling nature of inflation expectations.
Taking action
In 2022, the Canadian government unveiled its Affordability Plan to help Canadians through this period of inflation. While these programs provide some assistance, many are insufficient. For instance, the housing top-up payment doesn’t address a long-term lack of affordable housing, and the GST tax credit has increased by just 2.4%, far from reflecting the sharp spike in inflation in 2022. Furthermore, they do nothing to tame the expectations fueling inflation.
The government has an opportunity to do better in 2023 by delivering immediate financial support for the most vulnerable Canadians, lowering inflationary pressures across the economy through temporary tariff reductions, and investing in supply chain improvements that reduce inflation expectations and boost Canada’s long term economic growth.
- Immediate relief: Inflation protection payments
In 2022, 63% of Canadians in the lowest income quintile were very concerned about meeting everyday expenses. Due to their inability to delay purchases or shift consumption habits, these low-income Canadians have felt the effects of inflation more than those in the middle- and upper-income groups.
In Canada, the low income cut-off (LICO) threshold is used to determine who, on average, devotes a larger share of their income to the necessities of food, shelter and clothing. Using this threshold as a guide, the government can provide Canadians at or below the LICO with payments equal to 6.8% of their pre-tax income, bumping up incomes by the same proportion they were eroded by inflation. Using the existing tax and transfer system, the Canadian Revenue Agency could provide these payments directly to filers who meet the income requirements. Payments would be tax-free and would not impact eligibility for current social assistance programs.
Based on the most recent report from the National Advisory Council on Poverty, approximately 2.36 million Canadians are living at or below the LICO rate. Using data from this report and Statistics Canada, we can estimate how much these payments would cost the government. Based on the average income for one person living at the LICO level in an urban area (which represents the upper end of the cut-off), an average payment would be $1,810 and the total cost of this intervention would add up to $4.2 billion. This fiscal spending would be more targeted and substantially less expensive than the $12.1 billion allocated to the Affordability Plan or the $81.6 billion dished out through the Canadian Emergency Response Benefit (CERB).
Since up to 1 in 10 Canadians don’t file taxes even though they could be eligible for payments, this policy might not reach everyone. However, the government could provide increased support for the CRA to contact non-filers who qualify for the payments and refer them to free tax clinics.
This policy is inherently one of fiscal spending and thus runs the risk of contributing to inflation expectations. However, since the people targeted by these payments are in need of assistance to afford basic essentials, this would not be an injection of discretionary spending into the economy. Rather, these payments would allow households to pay for necessities like food, housing, and transportation which they would have otherwise purchased if they had the means.
These direct payments would offer a dose of relief to low-income Canadians, but must be accompanied by moves that also reduce inflation and influence long-term inflation expectations in order to be successful.
- Temporary relief: Reducing inflationary pressures through tariff reductions
To relieve inflationary pressures for low- and middle-income households in Canada, the government can temporarily and strategically reduce tariffs on imports of essential goods. For instance, lowering tariffs on basic necessities like food can provide immediate inflation relief. For goods like animal products and cereal, which have average tariffs of 24% and 20.7% respectively, even a partial reduction of 3-4% in tariffs would visibly reduce price tags. While dairy products in Canada have the highest tariff rate of 222.1%, and which disproportionately affects low-income households, a lack of political will to challenge Canada's supply management system make implementation of tariff reductions in this sector incredibly difficult.
Temporarily lowering tariffs on food products can have substantial near-term benefits for consumers while fostering economic competition. This is particularly beneficial for low- and middle-income households who are disproportionately burdened by high food prices. However, this policy also comes with its own set of potential consequences. The government will temporarily experience a loss of tariff revenue and sustained competition from imported goods could lead to job losses in certain industries. To address public concerns, the government can emphasize that the tariffs will be phased back in once the Bank of Canada reaches its inflation target. Moreover, a reduction in tariffs does not necessarily mean lower prices for consumers since firms can continue charging higher prices while benefiting from lower input costs. That being said, the government can create social pressure for grocers to lower food prices in proportion with tariff reductions by publishing the results of the Competition Bureau’s study of Canada’s grocery sector.
- Long-term protection: Improving supply chains and reducing inflation expectations
In recent years, Canadians have experienced first hand the effects of supply chain bottlenecks and their resulting price increases. To address this issue, the Supply Chain Task Force was assembled in 2022 and its final report made several recommendations, including: coordinating between federal agencies, developing a national supply chain strategy, and investing in seaports, railways, highways, and airports to meet future demand.
This was followed up with a proposal for the Strengthening the Port System and Railway Safety in Canada Act, which would improve Canada’s supply chain and support the flow of essential goods across the country. As a future-focused policy move, the government should enact this legislation, move forward with the recommendations of the task force, and take it one step further by developing a “shovel ready” project program for building out supply-chain infrastructure.
Currently, the procedures underpinning Canada’s economic efficiency are sorely lacking. As highlighted in the World Bank’s most recent Doing Business report, Canada’s ranking fell from 4th in 2006 to 22nd in 2019. Regarding construction permits, Canada ranked 63rd, taking on average 249 days for processing warehouse permits and making Canada the second worst among OECD countries.
Creating a system for developing shovel-ready projects could greatly improve the government’s ability to carry out supply-chain improvements in the future. As a part of this process, burdensome red tape can be identified and removed in accordance with the Red Tape Reduction Act.
Announcing this commitment to future growth-enhancing projects and demonstrating legislative commitment to the issue would create optimism throughout the economy. Investors would feel confident in Canada’s future economic growth and productivity, and consumers would feel more secure and hopeful about their future standards of living. This would break the self-fulfilling inflationary cycle and provide long term protection for Canadians.
All together, this would strengthen the government’s future fiscal capacity as the economy grows, making it possible to increase tax revenues without increasing the tax rate. Furthermore, a successful dampening of inflation expectations paired with long-term economic productivity would provide indirect yet invaluable protection for Canadians as it would enable the Bank of Canada to lower interest rates faster and reduce the probability of firms laying off workers due to strained financial conditions.
Taming inflation, now and in the future
Inflation is complex and social by nature. It is fueled by expectations and market signals that contribute to a self-fulfilling cycle, and while its causes are difficult to grasp, its effects are not. Low- and middle-income Canadians are feeling real and substantial pain, and the government can provide protection with direct transfers and temporary tariff reductions. However, to provide effective and long-term protection, these fiscal policies must be accompanied by measures to reduce inflation expectations and improve the long term productivity of the economy. In this regard, the policy solutions adopted by the government need to be as multifaceted as the issue they are seeking to address.
Much like the people standing in bread lines each day, the Canadian people are waiting. They are waiting for protection and relief from inflation, and the government has the tools to deliver. Yet the window is small and the need is great. Without effective action, it will be like waiting in a line that never moves.
About the Authors
Jimy Beltran is a 2022-2023 Master of Public Policy candidate at the Max Bell School of Public Policy and the 2023 co-recipient of the Jack Layton Prize for a Better Canada. Originally from Caracas, Venezuela, Jimy moved to Canada eight years ago to pursue a BA in Economics and History at St. Thomas University. He now works as a Project Manager for an ag-tech company. With a background in process optimization, entrepreneurship, and product development, Jimy is excited to contribute his experience of product validation and testing into the creation of effective policies. Jimy is particularly interested in learning about policies to enhance the adoption of precision technologies in the agricultural sectors of developing nations.
Abigail Jackson is a 2022-2023 Master of Public Policy candidate at the Max Bell School of Public Policy and the 2023 co-recipient of the Jack Layton Prize for a Better Canada. Abigail is pursuing her MPP degree to expand her knowledge of complex policy systems so that she can use her analytical mindset and creativity to make valuable contributions to environmental policy and governance. Topics that particularly interest her include sustainable food systems, post-consumer waste streams, and energy efficiency in buildings.
