Canada’s inflation fight continues.

“[The Bank] remains concerned that progress towards the 2 percent target could stall, jeopardizing the return to price stability,” it said after its July 12 meeting.

“While the Bank expects consumer spending to slow in response to the cumulative increase in interest rates, recent retail trade and other data suggest more persistent excess demand in the economy,” it continued.

Given these concerns, Canada’s central bank raised its primary policy interest rate to 5 percent this week, which is the tenth increase since early last year, when the rate was barely above zero. We’re now at levels not seen since 2001, and the speed of the increase exceeds any in over four decades.

This raises borrowing costs for consumers, businesses, and governments. “We know this tightening cycle has not been easy for many Canadians,” said Deputy Governor Paul Beaudry recently, “but the alternative, not controlling inflation, would be far worse.” 

The idea is simple: when interest rates go up, consumers and businesses demand less of many goods and services. This should take some of the pressure off prices. Even if the main items driving high inflation are not overly sensitive to interest rates, lower demand for other things could bring their prices down to compensate.

Knowing when to stop increasing rates is the tricky part.

Raising rates to 5 percent might have been the right move. Or it might have been a mistake. Depending on who you ask and what data they have in mind, the Bank may have gone too far or not far enough. 

It is not clear which view is right. Even the Bank notes that “a considerable amount of uncertainty surrounds [its] forecast.” 

Either way, the Bank of Canada opted for the least risky option. I’ll explain.

The Good News

First, the good news.

Consumer prices are 3.4 percent higher than they were a year ago, according to the most recent data for May 2023. This inflation rate is far lower than its peak of 8.1 percent last June. And most products tracked by Statistics Canada have seen a decrease in their pace of price change.

The big driver of this improvement is energy. It was the main reason why prices went up, and now it is the main reason why prices are going down. At least for this critical component, inflation pressures were indeed transitory.

There are also signs of improvement elsewhere. 

Groceries are now the biggest current contributor to Canada’s high inflation. Increases for those items have thankfully begun to slow, and this should continue as production costs have also been easing. Goods inflation is also improving, especially as consumer demand for many consumer durables, such as furniture, major appliances, and certain vehicles, may be falling. 

As for shelter costs, while still high, they may not be a big source of concern for the central bank. The biggest factor here is rising mortgage interest rates, which are up because of Bank rate increases rather than market conditions. In May, mortgage costs for homeowners contributed nearly a full percentage point. And among homeowners without a mortgage, I estimate their average personal inflation rate to be 2.6 percent, a full 0.8 points lower than for the average Canadian. This matters since if the Bank’s policy rates don’t rise further, neither will mortgage costs. We control which way they’re headed.

This is all good news. Most major items are trending in the right direction. Canada’s headline rate of inflation in June will almost certainly come in below 3 percent, and reaching our 2 percent goal may not be too far off.

This is one perspective. And one that suggests we’ve raised rates too high. But another way of looking at the data suggests a much more difficult road ahead.

The Bad News

The Bank doesn’t just look at the overall rate of inflation when making its decisions.

Instead, it has a number of ways to measure “core” inflation that leave out volatile factors. This does not mean that things like food and energy are not important. Of course they are. But this approach to measuring inflation tends to provide a better indicator of where overall inflation is headed. It’s therefore a better guide to monetary policy decisions today. 

Unfortunately, these measures are still too high and have stopped improving. 

“The stubbornness of core inflation in Canada suggests that inflation may be more persistent than originally thought,” the Bank noted in its quarterly analysis of Canada’s economy.

Service (excluding shelter) inflation is particularly worrisome. Restaurant prices rose nearly 7 percent last year. Travel services rose nearly 12 percent. Consumers having significant post-pandemic pent-up demand for such services may complicate the Bank of Canada’s job. These are normally items that are sensitive to interest rate changes, but today consumers are buying more, not less, of these services.

These data suggest the path back to 2 percent inflation may be more difficult than the drop we’ve seen so far, and further rate increases may be necessary.

Choosing the Least Risky Option

So which story is the right one? 

The truth is, no one really knows. Both the good and bad news stories offer important perspectives. And Canada’s central bank has a difficult job. Its decisions have a slow and uncertain impact on the economy. 

But if raising rates yesterday was a mistake, it’s an easier one to correct. The alternative error, not raising rates when they should have, is worse. The longer inflation stays above our 2 percent goal, the more entrenched expectations become and the harder it is to fight.

This may be what the Bank of Canada has in mind, especially since, with the benefit of hindsight, we were probably too slow to raise rates two years ago. It does not want to make the same mistake twice.

Editor’s note: On September 18, 2023, Prime Minister Justin Trudeau stated in the House of Commons that Canada’s security agencies are “actively pursuing credible allegations” that “agents of the government of India” were involved in the killing of Hardeep Singh Nijjar in June.

Last month a prominent Sikh leader in Surrey, Hardeep Singh Nijjar, was assassinated in the parking lot of the region’s largest temple. It comes after months of fairly charged discussions about Chinese government interference in elections and society.

The common thread between these events is that diaspora politics is intruding into our broader discourse. Yet, the Canadian body politic seems wholly unable to discuss the issue, much less craft policies that effectively deal with these situations. This is vitally necessary, considering that the historic levels of immigration Canada is currently seeing will grow diaspora groups and magnify the potential issues involved.

The underlying reality is that all diasporas participate in the politics of their home states to some degree. The overwhelming majority of these interactions are benign and even beneficial, strengthening civil society actors, democratic institutions and political development in the countries of origin. In cases where there’s an ongoing conflict, its repercussions will inevitably be felt within Canada. The effects are as varied as the situations they stem from, often as actors from the state of origin will seek to exploit Canada as any opportunity will allow.

A common effort visible in Canada is fundraising or political mobilization. This is not necessarily nefarious or unwelcome. For example Canada’s Ukrainian community has worked hard to build up political support and collect aid for Ukraine during the ongoing Russian invasion of their country. Another example was the the No Farmers, No Food movement in 2020 against land reforms that would disproportionately affect Sikh farmers in India. Political organization can be a positive force that should not be discouraged.

Yet the types of activities can, and have, expanded to coercion and violence. In the 2000s during the throes of the Sri Lankan civil war, agents of the Liberation Tigers of Tamil Eelam imposed a war tax on diaspora members in Canada employing among other things, violence against them and family members in order to ensure compliance. Canada itself can be a battleground for these conflicts and the largest terrorist attack on Canadian citizens was the bombing on Air India 182 that left 329 dead.

The potential for diasporas to be drawn into a foreign conflict, willingly or unwillingly, is clear. Yet Canada’s political culture has been almost wholly unable to grapple with this reality. It’s an ironic situation, considering how integral immigration and multiculturalism is to the country’s self identity. There are a number of reasons for this, including a lack of cultural knowledge but one of the most prevalent is a fear of insensitivity among many Canadians, in order to avoid any semblance of racism.

Often this hesitance is exploited by actors for their own purposes. A recent example has been any effort to investigate Chinese communist party infiltration into Canadian society, such as with overseas police stations. Yet the act of trying to investigate these and other efforts, no matter how well-reasoned, is condemned as racist. One can recall in 2010 how then-CSIS director Richard Fadden was censured for his claims that China was attempting to infiltrate Canadian political institutions, or more recent efforts to establish a foreign agents registry.

This situation highlights the groups who likely suffer the most about Canada’s inability to discuss these issues: the diasporas themselves. Most immigrants come to Canada in search of a better life and opportunities, in many cases leaving the conditions of their home country behind. This is particularly true of refugees, who may be fleeing persecution, or overall strife. Yet due to Canada’s political immaturity towards these issues, they are often condemned to remain in the grasp of the same situation, replicated in Canada.

This was clearly revealed over the past several months with respect to Chinese government foreign election interference, where Canadian human rights activists and other groups have reported direct harassment from Communist Party interlocutors, seeking to counter their agenda. Canadians, no matter their background, should have the freedom to express their political views freely and without persecution.

This is not to say that the government has completely abrogated its responsibilities in this area. Rather it has led to a strange political stasis.

CSIS and other national security bodies are active in these communities, trying to stem the tide. It was reported that in the weeks leading up to his assassination, Nijjar was warned by CSIS about credible threats to his life. Yet they can do so much absent of clear political direction and fears of their actions being construed as racist.

This is a problem for a number of reasons. Part of the issue is national political groups, which can tend to regard diasporas as monolithic blocks. Lacking awareness but desiring their support, Canadian candidates can be captured by entities or individuals that purport to represent these communities but support a particular agenda. The recent revelation that Toronto Mayor-elect Olivia Chow unknowingly received support from Pro-CCP groups during the election race is one in a long history of examples.

This is part of the challenge. Canadians require a greater awareness of the political dynamics that underlie these issues. They need not be squeamish about learning more if it is done respectfully and with honest intentions. Continuing this status quo and avoiding these subjects may result in the exact situation that everyone wants to avoid: a rise of intolerant sentiments in the country.

It will embolden racist groups to exploit the situation within the country to attack “outsiders,” sow division and leave the most vulnerable in an even more parlous state. The country, its politicians and population, should and must do better for all Canadians’ benefit.