OTTAWA –
What goes up does not necessarily come down.
That’s contrary to the sentiment of a surprisingly large proportion of respondents to the Bank of Canada’s quarterly survey of consumer expectations, released last week.
According to the survey, more than a quarter of Canadians believe that the current high prices of decades will fall within five years.
“What goes up must come down,” said one respondent in a post-survey interview.
The sentiment likely surprised the central bank.
The possibility of deflation in five years is “extremely unlikely,” said Stephen Gordon, a professor of economics at Laval University.
Although some prices will drop, as has been the case with gasoline prices, Gordon said higher prices for goods feed back through the supply chain and feed into the economy.
“It starts to embed itself into people’s expectations and it becomes a self-fulfilling prophecy,” he said.
Meanwhile, the Bank of Canada said confusion between deflation (falling prices) and disinflation (slowing price growth) was not the reason the figure was so high, noting that respondents understood the difference.
The central bank regularly monitors inflation expectations in the economy to ensure that it has control over price growth. With inflation well above its two percent target, inflation expectations have been a top concern for the Bank of Canada.
If individuals and businesses expect inflation to remain high in the future, that expectation may lead firms to set higher prices and workers to demand higher wages.
Normally, people expect deflation when the economy is not doing well. However, the Bank of Canada noted that respondents who said they were anticipating deflation were less likely than other Canadians to expect a recession in the next twelve months.
Instead, these respondents were more likely to believe that inflation was caused by supply chain disruptions. Once these temporary inflation pressures wear off, many of them believe that prices that rose rapidly would later decline.
While TD economics director James Orlando agrees that deflation is unlikely on the horizon, he said there is logic behind what respondents think.
“As supply chains relax, and they are relaxing very quickly right now, we will start to get more and more discounts,” Orlando said.
Data from the Consumer Price Index shows that the prices of some goods have already been falling in recent months.
The prices of durable goods, for example, which includes items such as furniture, fell between November and December.
However, that does not mean the economy will experience widespread deflation, Orlando said.
“The reason we don’t think headline inflation will hold in negative territory… is because you have to consider that the economy is not just about goods, it’s also about services,” he said.
Service prices are driven by wages, he said, which are unlikely to fall given their sticky nature.
While deflation may seem like good news at first glance, Gordon said it’s not something anyone should wish for.
“Business would have to be in very bad shape for companies to lower their prices. And if they are, they are probably cutting workers,” he said.
Similar to high inflation, deflation would also set off alarm bells at the central bank. Orlando said Canada’s economic system expects some inflation and that has been built into expectations.
If prices were to start falling, that would force the Bank of Canada to step in and stabilize prices.
For now, the central bank’s concerns are far removed from deflation fears.
Canada’s annual inflation rate was 6.3 percent in December, a notable improvement from the previous month, but still too high for the Bank of Canada’s reassurance.
Although some Canadians seem to believe that prices will fix themselves, the Bank of Canada is not counting on it as it prepares for one more, and potentially final, interest rate hike on Wednesday.
This report by The Canadian Press was first published on January 23, 2023
