Former Bank of Canada governor David Dodge says the central bank has a year to 18 months to get inflation under control or risk a return to the “pretty awful era” between the mid-1970s and ’80s characterized by a lack of pricing predictability and social upheaval.

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Bank of Canada has 18 months to rein in inflation or risk a '70s rerun, warns David Dodge Back to video

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“We hope that with just these rather modest, by historical terms, interest rate increases of six per cent or thereabouts that this will be enough to squeeze demand back more in less in line with supply, and we will get very quickly back to a period where people expect prices to be stable again,” said Dodge, one of the authors of an extensive economic outlook report published June 12 by law firm Bennett Jones LLP.

“We lose that if we don’t make enough yards in the next year or 18 months. And … that’s a big loss of a big piece of social capital.”

What’s fuelling inflation

Reining in inflation will mean forgoing some consumption in the near term, which will be hard on some segments of society, but that is necessary, said Dodge, an economist and longtime federal bureaucrat who held senior positions including deputy minister of finance before becoming the central bank governor in 2001.

He said the Bank of Canada has taken the right steps for the short term, but he believes global economies are in the midst of a great upheaval, with fractured trade that will make it difficult to keep costs down, and an increasingly digital world that will result in clear winners and losers.

“(We’re) going into this very, very difficult period of having to make changes to adapt to climate change and the difficult period where we’re going to have technology changes which will change some relative wages,” he said.

“(If) we as a society are reasonably confident that we know what the ground we’re walking on is, that prices are more or less on average are going to be pretty much stable … we’re not going to have the sort of terrible battles that we had between different groups to get wage gains, or to ramp up big price increases that we had during the ’70s.”

As long as inflation is coming down, even back to a level of around three per cent, Dodge said companies and consumers should look “through” the higher than usual interest rates it takes to get there to a point at which they, too, will come down.

He likened this to the early 1980s when Canadians paid as much as 18 per cent interest on mortgages. 

“None of this is easy but it’s doable. It’s important that we all truly understand — households, businesses and governments — that this is a process we’re going through. We’re going to work through it.”

The Bank of Canada’s interest rate hikes over the past year or so have been dramatic after a prolonged period of historically low rates, putting stress on those with mortgage debt and business loans and casting a pall over some sub-sectors of commercial real estate. Banks have taken larger loan loss provisions and, in May, inflation ticked up for the first time in nearly a year as housing and rent prices rose.

Canada lags the world

Dodge, 80, urged Canadian policymakers to set the table for digitization that will prepare companies to compete globally, and to take steps to increase domestic competition in heavily concentrated sectors such as banking and grocery to increase investment and productivity and keep prices down.

Price stability that characterized the first 20 years of this century was a key element of keeping the economy running smoothly and that predictability reduced social friction, he said.

“Some of these (prices) went up, others went down, but basically your perception was more or less stable. And so when you went to your employer or when your employers looked at it, we had a sort of an idea on what was a reasonable increase in nominal wages from year to year,” he said. “We didn’t have big fights and big problems in that regard.”

Competition is a tremendous, tremendous shove … to improve

David Dodge

To better position Canada to handle changes in the global economy and keep this country on a path towards economic growth, Dodge said the federal government needs to tackle long overdue overhauls of frameworks including taxation and competition. He said Ottawa hasn’t moved quickly enough on a decade-old pledge to create systems for an increasingly digitized world, with countries including India and Brazil now far ahead of Canada.

“We have a system that allows for non-competitive behaviour in the financial area because we don’t have good system of open data management,” he said. “That’s a systemic problem, that those data cannot be moved around appropriately and securely…. (I’m) not blaming the banks, this is blaming the fact that we have not moved forward to figure out a way to manage those data in a way that competition can actually take place.”

In Brazil, the creation of a data management system that allows individual players carrying out different functions in the financial world to be able to transact was driven by the central bank, said Dodge, who was Bank of Canada governor from 2001 until early 2008. In India, the government is behind the harnessing of such data.

While Canada is looking at some aspects of this transition, such as whether the Bank of Canada should oversee a digital currency, Dodge said North America is “quite a bit behind the world” while Canada “is firmly behind.”

For example, an overhaul of the payments system that is underway will be suitable for third generation (3G) technology when the world is moving to 5G.

“That’s a way to frame where we are in the game,” Dodge said, adding that the federal minister of finance would be a logical leader for this push, given that banking falls under federal jurisdiction and the industry dominated by a handful of large players is unlikely to act on its own.

“Unless our firms actually face competitive pressures, they will not make the additional investments that are necessary,” he said. “I mean, competition is a tremendous, tremendous shove, if you will, to improve.”

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