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Forecasting the post-pandemic world

An interview with the former Governor of the Bank of Canada Stephen Poloz.

Former Governor of the Bank of Canada Stephen Poloz
Former Governor of the Bank of Canada Stephen Polo, now special advisor at Osler. Photo: Blair Gable

Now a special advisor at Osler, Stephen Poloz is the keynote speaker at the upcoming CCCA Spring Conference on April 22.  Ahead of his talk, he sat down with CBA National to discuss the role of monetary versus fiscal policy during the recovery, and to share his insight on the risk of inflation, whether the Roaring ‘20s will make a comeback, and how we can build resilience in the post-pandemic world.

CBA National: First, what drew you to join a law firm after you ended your tenure as governor?

Stephen Poloz: Well, you know, economists love to tell lawyer jokes — maybe it’s because economists are usually the butt of jokes. But I really am enjoying my time at Osler. I get to sit down with clients, often in the context of a board meeting, and I’m asked to talk about what I see in the economy. As an economist, it’s really interesting for me to spend concrete time with management teams, and exchange views on what’s happening on the ground. When I was at EDC and as governor, I always found I learned more by having dinner with local CEOs than from all the numbers and models that economists spend all day working with.

N: How did those conversations inform your decisions as governor?

SP: Well, for example, when oil prices collapsed in late 2014 - early 2015, we were pretty sure we had a problem. But talking to companies allowed us to size up just how much investment would be reduced as a result. Those relationships allowed us to get a sense of scale, and so we cut rates (quite surprisingly to the market). In the end, of course, there was a pretty big decline in the economy, but it would have been much bigger if we had not reacted so quickly.

N: What are you hearing from corporate leaders today?

SP: People are uncertain about the future. These ups and downs due to closures and reopenings create uncertainty in a lot of business models. But underneath it all, we’re observing a tremendous amount of resilience. And that’s the message I heard right from the beginning, starting last September when I met with companies after I joined Osler. They had their people working from home and it was working out better than people thought. The market went down at first, but it bounced back relatively quickly. From a macro point of view, I was expecting that kind of resilience, but hearing their stories in micro really gave me more confidence.

N: What gave you confidence on the macro side?

SP: When the COVID shock hit the Canadian economy, it was in the best shape it had been for a long time. Unemployment was at a 40-year low; inflation was right on target. If you’re going to get hit by something, that’s when you want it to hit – when you’re in perfect shape. Just the way a healthy, fit individual has a better chance of shaking off COVID, it’s true for the Canadian economy, too.

N: When looking at economic indicators in search of patterns, how do you deal with the possibility of events that haven’t happened before – or at least not on this globally integrated scale?

SP: Well, things happened so fast. But when the economy shrank by 20% in March-April, it was just a measure of how effective the shutdown was. After a while, we adapted and there were things we could do again. And then eventually we reopened. So, all along I figured this was not going to be a recession in the usual sense of the word. It would be a recession in arithmetical terms, but that doesn’t tell you about the behaviour underneath the recession. This was just a mechanical shutdown and then a resumption. And you can tell, because all the effects are concentrated in the sectors that have been closed. They’re not spreading to other sectors.  Now there’s a debate because the household sector has saved a lot of money, even though many households are struggling. How much of that gets unleashed when we move back to a more normal footing? Will we have the roaring 20s all over again, 100 years later? I think the answer is no.

N: How come?

SP: Chances are, people will hold a higher level of savings on average than they did before all this happened – and this is true for companies, too. We might see a more financially conservative stance from both households and firms, which will help build some basic resilience.

N: Do you have any concerns that our economies will face more frequent mechanical shutdowns?

SP: I expect we will face more volatility the future. And for that reason alone, we need to invest in more resilience. The government did a really good job of reintroducing things that would buttress the economy very rapidly – the [Canada Emergency Response Benefit] in particular. They cut the recession in half by doing that. The banks also did a great job this time around – much better than in 2008. After we remodelled the global financial architecture, the banks now have to hold more capital, which makes them better able to withstand important shocks. Governments no doubt will have to rebuild their financial position so that they’re ready to do this again if they need to, but they probably need some time. To help grow the economy and build resilience, there are things that governments could do – having an automatic safety net like CERB, which is a bit like a basic income guarantee. They can invest in infrastructure. More accessible day-care like they have in Quebec would help boost female labour force participation. And the other one would be getting the provinces to harmonize all their inter-provincial differences. Barriers to trade between the provinces are greater than they are between Canada and the United States.

N: Money today is cheaper than it’s ever been. How important is it for central banks to get back on course in getting rates back up?

SP: I don’t like to comment directly on current monetary policy, so let me just say that central banks need to get back to something more normal in general. But we all know that “normal” will be at a fairly low rate of interest. They’re probably going to stay low for demographic reasons. The rate of growth in the global economy has been drifting down because population growth has been drifting down, as baby boomers like me gradually exit the workforce. And therefore, monetary policy has less room to maneuver than it has historically. And so fiscal policy will need to do more of the heavy lifting, on average, than it has historically. That’s why I’m advocating for more adoption of automatic fiscal tools in the future. There’d be less pressure on interest rates to do as much as possible, if there were another event.

N: It sounds as if you’re not that worried by inflationary pressures, because everybody seems to be freaking out about it.

SP: [Laughter] Well, we have a lot of ingredients lying around that look like they could be inflationary. But remember that COVID was like a giant bomb that went off in the economy. It created this crater, and if central banks and governments had done nothing, we would have had to walk down into the crater and then come up the other side. That’s what happened during the Great Depression in the ’30s. Instead, we essentially filled that crater up with what we affectionately call liquidity so that everybody can row their boats across. And once you’re on dry land again, you can drain that liquidity out of that crater. So it looks like an inflationary policy only because it’s counteracting a deflationary shock and, of course, people are going to worry around that inflection point. But central banks stick to their knitting, and I have every confidence that we’ll re-emerge with around 2% inflation.

N: Switching topics, we see China pushing to launch an official digital currency. Is there a risk that Canada is moving too slowly in launching a CBDC that the public would want to use?

SP: Most of the major central banks are working on this. And the strategy is to be prepared to launch a CBDC if the conditions demand it. If we started using electronic means to pay for everything, and a privately offered digital means of payment like Facebook’s Diem became extremely popular and began to displace some national currencies, that would erode the central bank’s ability to influence its economy. For that reason alone, they need to be interested in that. But I think the value proposition of a digital means of payment will be eroded dramatically when the normal system goes to a real-time rail. This is why you don’t see Australians talking about a digital currency – because they already have real-time settlement, phone to phone, person to person. We’ll have that in Canada within a year or so with Interac and e-transfers. I’m not sure what a digital [currency] would add to that. But the Bank of Canada has said it will be ready for the day when one of these [private digital payment] becomes sufficiently popular that the people who use our currency are basically demanding a CBDC. The day they do, anything else will get blown out of the water, because you can’t replicate the confidence you have in the Canadian dollars that you have folded up in your pocket.

N: Aside from inflation and building resilience, what else keeps you up at night?

SP: I concern myself with the consequences of a third wave which we see emerging. What if there’s a fourth wave? The authorities have done a good job stabilizing things and protecting people. But, you know, there are limitations to how much of that can occur. Another thing that concerns me is an emerging market debt crisis, because of the number of less developed economies with far less institutional resilience than we have. And in general, we’re in for a more volatile future.

This interview was edited and condensed for publication.