As Canada’s central bank, the Bank of Canada is responsible for maintaining Canada’s financial systems by controlling the monetary policy, issuing currency and keeping crucial drivers, such as inflation, money supply and interest rates, in order. When economic conditions contract, the Bank of Canada has several tools to keep the economy on track. During economic downturns, such as the one endured during the peak of the COVID-19 (coronavirus) pandemic, the Bank of Canada employed its quantitative easing program to help stimulate economic activity.
Quantitative what now?
Quantitative easing is a monetary policy tool designed to increase consumer confidence by injecting money into the economy. This type of economic stimulation is achieved through large-scale asset purchases that increases Canada’s money supply and enables banks to increase lending. In addition, the Bank of Canada can influence interest rates by decreasing the overnight rate, which is the interest commercial banks pay to borrow from the Bank of Canada. This was evident in March 2020 due to the beginning of the coronavirus pandemic, and the Bank of Canada effectively lowered its overnight rate by 150 basis points to 0.25% within a few weeks.
This rate effectively became the bank’s lower bound and has remained untouched since. However, with vaccine rollouts, reopened boarders and improving consumer sentiment, economic conditions have improved. Now, the Bank of Canada must step in and increase interest rates to combat rising inflation. As inflation surges due to supply chain disruptions and surging oil prices, the Bank of Canada forecasts inflation to grow an average of 4.8% in 2021. Since this rate is far above the 2.0% target, monetary actions need to take place to avoid a massive devaluation of the Canadian dollar.
Quantitative no more
The Bank of Canada announced the end of its quantitative easing program in late October 2021. Although interest rates are expected to remain at the current rate, the Bank of Canada has suggested it will begin raising rates in mid-2022. Although rates are expected to remain stagnant until the middle of 2022, the Bank of Canada has begun its reinvestment phase. This tapering phase is expected to keep the central bank’s balance sheet steady by purchasing only enough securities to replace existing holdings as they mature.
At the time of writing, the Bank of Canada currently owns an estimated $425.0 billion in federal government bonds, in which most were purchased over the past year and a half. As the quantitative easing program comes to an end, the Bank of Canada is expected to only purchase between $4.0 billion and $5.0 billion worth of federal government bonds each month. This is a significant decline from the peak of the pandemic, when the Bank of Canada purchased that same amount every week.
Overall, as the consumer price index rose to an 18-year high in 2021 and inflationary fears expanded quicker than expected, the Bank of Canada is now in charge of stabilizing both drivers so the economy can continue its steady recovery. By bringing down the inflation rate to its target of 2.0%, the economy can continue on its steady path to recovery.
