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By Ben Forrest | Feb. 22, 2024
Print | PDFOn Feb. 14, the Laurier Centre for Economic Research Policy Analysis (LCERPA) and the Lazaridis School of Business and Economics at Wilfrid Laurier University hosted Economic Outlook 2024: Cost of Living, Housing and Monetary Policy - a panel discussion about the rising cost of living.
The session focused on the role of fiscal policy on inflation, as well as the housing shortage and high cost of rent and real estate.
It featured insights from panelists Rhys Mendes, deputy governor of the Bank of Canada and Diana Petramala (BA Econ ’07, MABE ’08), director of research and economic consulting with Altus Group. The discussion was moderated by Brian McCaig, economics professor in the Lazaridis School and director of LCERPA.
“I know there's a lot of uncertainty right now,” Mendes acknowledged in his opening remarks. “I want you to know we do hear your concerns.
“We know high inflation is hard on Canadians. We know the cure — higher interest rates — is also tough to swallow.”
The Bank of Canada aims to keep inflation at around two per cent per year, but Mendes noted the bank has missed this target in each of the last three years.
He pointed to global factors including the strain on global supply chains and a surge in food and energy prices following Russia’s invasion of Ukraine.
“But high inflation was not entirely a global story,” Mendes said. “As the Canadian economy reopened, demand got ahead of supply, and this drove up inflation across a broad range of goods and services.”
The Bank of Canada responded by sharply increasing interest rates in an attempt to “bring demand and supply back into balance,” he said.
“The good news is that it's working. Higher interest rates have helped to slow demand and inflation has come down significantly.”
Inflation dropped to around 3.5 per cent at the end of last year after peaking above eight per cent in 2022, he said.
“But the job isn't done. Inflation is still too high and underlying inflation pressures are still too broad. While the path back to two per cent is likely to be slow and risks remain, the target is now in sight.”
The bank forecasts inflation at around three per cent through the first half of 2024, easing gradually to 2.5 per cent by the end of the year, and returning to two per cent in 2025.
Housing affordability is another key problem impacting the cost of living, but Mendes argued that monetary policy can’t solve it.
“The challenges in our housing market come down to a chronic shortage of supply relative to demand,” he said. “For years now, Canada has not built enough homes to keep up with population growth.”
He also pointed to stalling productivity growth as another factor impacting the economy.
“Higher productivity pays for higher wages and it's the foundation of a rising standard of living,” he said. “Wages cannot indefinitely rise faster than inflation unless productivity also rises.”
Demographic changes also play a role in the rising cost of living, Petramala argued. She pointed to rapid population growth through immigration — a complicating factor when housing is in short supply — and an aging population, as key factors.
“We do have high inflation, but the economy actually hasn't been doing that great since the pandemic,” she said. “Economists are calling for a potential recession in 2024; at best we’re looking at modest growth.”
Asked about the potential for further inflation, Mendes said he believes upside risks are, “mainly geopolitical at this stage.”
He cited attacks on ships in the Red Sea that he believes have led to increased shipping costs, as well as water level issues in the Panama Canal. But he also acknowledged downside risks, saying interest rate hikes may have a larger impact than forecasts indicate.
“You could see more slowing in the global economy, and that would translate into a more rapid slowing in inflation,” he said. “So I think there are risks on both sides, but I think we need to be more concerned about the upside risks.”
Additional downside risks include a potential global recession and the impact of rising interest rates on the housing market, said Petramala.
“On the other side, the risks would be war, and the impact that war might have on prices of commodities,” she said.
Petramala went as far to say she doesn’t believe there were supply chain issues during the pandemic, pointing instead to a shift in consumer habits toward online purchasing that may have accelerated changes in the economy.
“If there was a supply chain issue, we would have seen that somewhere in the import/export data, I believe, and we didn’t,” she said.
While there has been intense focus on recent interest rate hikes, Petramala argued the biggest issue with overall housing costs was the previous lower-interest rate environment.
“That really drove a lot of investment into housing, and that pushed the price of housing and land up,” she said. “The issues in affordability have been predominantly driven by the low interest rate environment and demographics, and supply has not kept pace with demand.”
The panelists agreed housing supply is a concern and Petramala pointed to demographics and low vacancy rates as factors influencing an increase in rent prices.
“[Rents] were rising significantly before interest rates started to go up, so I think it was more of a demographic force than it was an interest rate force,” she said.
Mendes reiterated his concerns about housing supply, saying a well-supplied market should be able to absorb variations in population growth without large price movements.
“Housing markets have had chronic shortages in supply for years and that's the underlying issue,” he said.
When asked if we’re headed toward a downturn in the housing market, similar to the 1990s, neither panelist predicted that will happen.
“I think we have to go back to the fundamentals,” said Mendes. “You'd have to have a pretty big flip in the supply demand balance to have the fundamentals move in a way that would support that sort of ’90s-type of scenario, in my view.”
“It's not my view that we're going to have a 1990s-style crash, but we already have seen the same degree of decline in existing home sales,” said Petramala.
“I think we've seen we can absorb that big of a contraction without having that big of an impact on the overall financial stability in our economy,” she added. “I'm not sure that I would be ready to call this a housing bubble.”