|
Hello All, Anyone who has been to a grocery store, to a gas pump or to buy regular household items in recent months will likely have noticed that prices have gone up somewhat markedly. This is largely due to the pandemic which has brought about disruption in the supply chain (basically the many steps in the process in the production and distribution of goods), increase in oil prices, labour shortages and increased buying after people have been stuck at home for many months. Consequently, inflation, which has been very low for many years, experienced a significant uptick in 2021 . This has governments around the world trying to figure out a solution to a difficult problem. To illustrate inflation, Statistic Canada uses a metric referred to as the Consumer Price Index (CPI) that measures changes in prices for goods and services. The CPI looks at prices for a “basket” of items that includes food, shelter, clothing, transportation, healthcare, alcohol etc.and comes up with a weighted average (how much each one costs relative to the basket). For 2021, they found that the annual average increase in the CPI was 3.4% compared with only 0.7% in 2020. This increase is even more pronounced when you compare December 2021 to December 2020 where the increase was 4.8% as price increases accelerated in the latter half of the year. This is the fastest pace of growth since 1991 when the comparable increase, year over year, was 5.6%. For many years the Canadian government has used monetary policy to maintain inflation at a target rate of 2%. The primary tool used to control inflation is the adjustment of interest rates. When inflation is rising the Bank of Canada is likely to raise interest rates. The reason that increasing interest rates helps to reduce inflation is because higher interest rates make it more expensive to borrow and more attractive to save. Consequently people are less likely to spend money either because their borrowing costs have gone up and they have less disposable income or they prefer to save rather than spend on items that are not necessities. This in turn reduces demand for goods and services which, as it works its way through the system, makes businesses more likely to reduce their prices.to encourage people to buy again. The BOC and the Federal reserve in the US has indicated that interest rates will likely be rising soon in an effort combat inflation. In Canada there are 8 meetings a year where interest rates are reviewed and a decision is made whether to keep it the same or change it. The next meeting is in early March. It should be noted that the last time the interest rate was changed was in March 2020. Since the whole point of raising interest rates is to slow down the economy, most of us are directly or indirectly affected. Some of the effects on our bottom line are as follows: Homeowners in Canada who have variable rate mortgages can expect their rates to rise. New mortgages or refinancing a fixed rate mortgage will see an increase in interest rates. Home prices could decrease since the cost to buy them (increased interest rates) will be higher which will reduce demand.
Any other debt such as lines of credit which are based on prime rates will be more expensive impacting individuals and small business owners. There will start to be a reduction prices of goods and services helping both individuals and small businesses. Interest rates on savings accounts should increase making it more attractive to buy fixed income securities such as GICs, bonds, or simply invest in a high interest savings account. The stock markets will likely experience drops since businesses will have lower sales and corresponding profits (this partially explains why the stock market indices have been going down over the past few weeks as the rate increase is already being anticipated) Governments and companies that have high debt levels will have to pay more to service their debt. This can result in tax increases.
And many other potential implications outcomes given the different variables involved that will only reveal themselves over time. Many believe that the inflation we are experiencing will abate on its own as economies start to return to normal, post pandemic. Others think that inflation is a longer term problem which will require ongoing monetary intervention by governments. We will see.
|
