The pandemic paradox: Surging savings, surging debt leave Bank of Canada with balancing act


The Bank of Canada has faced unprecedented challenges when it comes to monetary policy since the start of the COVID-19 pandemic, launching drastic interest rate cuts to combat the initial slowdown followed by a rapid tightening cycle to fend off inflation. Making things more complicated has been that economic policy hits different households in different ways, an effect that has been exaggerated in the recent extreme conditions, according to Bank of Canada deputy governor Sharon Kozicki, who addressed the issue during a Sept. 19 speech at the University of Regina.

The Financial Post’s Denise Paglinawan highlights five key takeaways from the deputy governor’s speech:

1. No household is ever truly average

While the Bank of Canada generally focuses on aggregate economic data, Kozicki said averages do not always tell the full story as each household is unique and has experienced the unusual economic events of the past few years in very different ways.


Households went into the pandemic with different levels of wealth, debt and income and the monetary and fiscal policies implemented during the pandemic had differing impacts.

Lockdowns, for example, allowed many middle- and upper-income households, especially those who owned homes, to accumulate a significant amount of savings, while others racked up significant debt.

2. The pandemic real estate boom has only complicated the picture

 A sold sign in front of a home in Toronto.
A sold sign in front of a home in Toronto.

Those increased savings, combined with low interest rates at the time and a desire for more space as people worked from home, fuelled a surge in demand for real estate. But the boom affected individual households in starkly different ways, Kozicki said, which influenced subsequent policy deliberations.

As some households took on high levels of mortgage debt to finance real estate purchases, those who already owned saw their home equity increase as house prices rose. This led to some households having higher levels of home equity and others having much higher levels of debt.

“The current elevated debt levels have affected how higher interest rates affect individual households and have changed the relative importance of the channels through which monetary policy is transmitted,” Kozicki said.

3. Cash flow is now king

Kozicki said there are three main channels through which monetary policy is conveyed. Traditionally, the most important channel has involved the timing of purchases, in which households might delay or accelerate spending depending on the real interest rate (interest rates minus inflation). The second has involved cash flow, or the impact that higher rates have on the monthly cash flows of debt holders and savers, while the third involves the wealth effect, in which changes in asset values induce a greater or lesser propensity to spend.

Kozicki said the cash-flow channel has become “more important than in past cycles” in part because Canadians entered the pandemic with already high levels of debt.

Higher interest rates increase the carrying costs of debt that people already have and households whose debt-service costs vary with interest rates such as prime have felt large direct impacts.

“Higher shelter costs and debt payments mean that people have less income left over to spend on other things like restaurant meals or vacations,” Kozicki said.

According to the Bank of Canada, about 15 per cent of households have a higher mortgage payment than they did in February 2022, and that number is only going to grow as more mortgages come up for renewal.

4. Inflation is still too high

 Inflation is still too high, Kozicki said.
Inflation is still too high, Kozicki said.

Kozicki said inflation has come down from very high levels last year, but it is still too high.

“Interest rates had to rise a lot. That’s why we acted forcefully and brought them up quickly,” she said.

The deputy governor also pointed out that the costs of inflation haven’t necessarily been borne equally or in proportion to income.

“Higher fuel prices have disproportionate effects for people who live in parts of the country where they heat their homes with oil or where they need to drive long distances,” she said. “And certain sectors of the economy are impacted much more than others. Agriculture, for example, makes extensive use of gasoline and diesel fuel, and farmers will feel the pinch of higher energy prices much more than most.”

5. The bank is facing a balancing act

With the disproportionate effects of this cycle of tightening, balancing both sides of the pandemic paradox has been an issue for the Bank of Canada.

On one side, households with elevated savings and pent-up demand have more desire and ability to spend, and their spending is less sensitive to rising interest rates. On the other, households with a lot of debt have spending that is more sensitive to rising interest rates.

Kozicki said gauging the overall impact is key to determining the appropriate degree of tightening.

“We don’t set our policy based on what is happening to one subset of households or to the price of any one good or service,” she added.

The deputy governor said policymakers at the central bank don’t take their decisions lightly and know that higher rates have been “very painful for some.” She said, however, that the burden of persistently high inflation weighs on households of all income levels.

“We are seeing signs that monetary policy is working,” she said.

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