PrefBlog

TXPR closed at 567.37, down 0.51% on the day. Volume today was 1.50-million, third-highest of the past 21 trading days.

CPD closed at 11.27, down 0.35% on the day. Volume was 93,900, above the median of the past 21 trading days.

ZPR closed at 9.39, down 0.42% on the day. Volume was 247,320, second-highest of the past 21 trading days.

Five-year Canada yields were at 3.59% today.

Life wasn’t exactly rosy in other markets, which the pundits attribute to Powell’s testimony to Congress:

Of Wall Street’s three major indexes, the Dow Jones Industrial Average lost most ground with a 1.7% decline, while the S&P 500 fell 1.5% and the Nasdaq Composite lost almost 1.3%. The S&P/TSX Composite Index lost 1.2%.

Powell sent stock investors fleeing when he told U.S. lawmakers earlier in the day that the Fed is prepared to hike rates in larger steps if future economic data suggests tougher measures are needed to control rising prices.

The remarks followed recent data showing an unexpected inflation increase in January and an unusually large jobs gain for the month.

Traders dramatically raised their bets for a 50-basis-point rate hike in March after Powell’s comments, with money market futures last pricing in a more than 70% chance of such a move, up from around 31% on Monday, according to CME Group’s FedWatch tool.
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The Dow Jones Industrial Average fell 574.98 points to 32,856.46; the S&P 500 lost 62.05 points to 3,986.37; and the Nasdaq Composite dropped 145.40 points to 11,530.33.

All 11 major S&P sectors closed lower, led by economically sensitive financials which finished down 2.5%. Declining least was the consumer staples index, down 0.97%.
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Meanwhile, the yield on two-year Treasury notes, which best reflects short-term rate expectations, hit 5% for the first time since July 2007.
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The Toronto Stock Exchange’s S&P/TSX composite index ended down 239.26 points at 20,275.54, its lowest closing level since last Wednesday

The NYT reported:

Mr. Powell, in remarks before the Senate Banking Committee, also noted that the Fed’s fight against inflation was “very likely” to come at some cost to the labor market.

His comments were the clearest acknowledgment yet that recent reports showing inflation remains stubborn and the job market remains resilient are likely to shake up the policy trajectory for America’s central bank.
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But a number of recent economic reports have suggested that inflation did not weaken as much as expected last year and remained faster than expected in January, while other data showed hiring remains strong and consumer spending picked up at the start of the year.

While some of that momentum could have owed to mild January weather — conditions allowed for shopping trips and construction — Mr. Powell said the unexpected strength would probably require a stronger policy response from the Fed.

“The process of getting inflation back down to 2 percent has a long way to go and is likely to be bumpy,” he told the committee. “The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated.”

Fed officials projected in December that rates would rise to a peak of 5 to 5.25 percent, with a few penciling in a slightly higher 5.25 to 5.5 percent. Mr. Powell suggested that the peak rate would need to be adjusted by more than that, without specifying how much more.

The Boston Fed has released a “Current Policy Perspective” by John Sabelhaus and Jeffrey P. Thompson titled “The Limited Role of Intergenerational Transfers for Understanding Racial Wealth Disparities”:

Transfers of wealth between generations—whether through inheritances or inter vivos gifts—are less important in explaining racial disparities in wealth than might be expected. While this factor looms large in the media’s discussions of racial inequality, it explains relatively little of the disparities evident in the data. One reason is that most people, regardless of race, receive no inheritance or other transfer of substantial value. In addition, most recipients of inheritances ultimately consume those bequests and do not plan to leave substantial gifts to their offspring. Further, the assets that account for a large majority of most households’ wealth (employment-based retirement plans and home equity) are not inherited and accumulate slowly over families’ working lives.

Using nonparametric decomposition techniques, we show that intergenerational transfers explain only a modest portion of disparities between white and non-white families. This finding is consistent with prior research, but we improve upon the existing literature in a variety of ways, including augmenting the wealth measure in the Survey of Consumer Finances to account for the value of defined benefit pensions, adding controls for lifetime earnings and the availability and generosity of employer-provided pensions, and capturing some inheritances and inter vivos transfers that are not typically reflected in most studies. When no other controls are included, we find that differences in intergenerational transfers account for 13 to 16 percent of white/non-white private wealth gaps. When we control for lifetime earnings, workplace pensions, and a handful of additional human capital variables, the marginal contribution of intergenerational transfers shrinks considerably, but the combined portion of the racial wealth gap that is explained rises to 80 to 90 percent. Policymakers interested in helping households build wealth are advised to look to ways that would enable them to boost the earnings that they receive over their lifetime.

The Canadian Securities Administrators are touting a software update for SEDAR. I have sent them an eMail with a question:

I understand that improvements to SEDAR “will produce better data for all stakeholders, so that analysts, investors, governments, academics and others can easily access and analyze robust data from the system to gain deeper insights into the state of the Canadian capital markets.” ( https://www.securities-administrators.ca/about-sedar/sedar-frequently-asked-questions/ )

Will the new system allow direct linking to any specific document at will by any of these analysts, investors, governments, academics and others without the necessity of obtaining written permission? Will access to an API make it possible for these users to devise their own search and download routines?

Please advise.

Sincerely,

Feel free to send them an eMail of your own!

The IMF has published an article by MARKUS BRUNNERMEIER titled RETHINKING MONETARY POLICY IN A CHANGING WORLD:

Although financial stability remains an important concern, there are important differences between the current environment and the one that followed the global financial crisis:

• Public debt is now high, so any interest rate increase to fend off inflation threats makes servicing the debt more expensive—with immediate and large adverse fiscal implications for the government. Since the beginning of the COVID-19 crisis in early 2020, it is also evident that fiscal policy can be a significant driver of inflation.
• Instead of deflationary pressures, most countries are experiencing excessive inflation. That means there is now a clear trade-off between a monetary policy that tries to reduce aggregate demand by raising interest rates and one that aims to ensure financial stability.
• The nature and frequency of shocks have changed. Historically shocks were mostly from increases or decreases in demand—with the prominent exception of the supply shocks during the so-called stagflation of the 1970s. Now there are many shocks: demand vs. supply, specific risks vs. systemic risks, transitory vs. permanent. It is difficult to identify the true nature of these shocks in time to respond. Central bankers need to be more humble.

The low interest rates and less extreme public debt levels that prevailed after the global crisis permitted central banks to ignore what were then relatively inconsequential interactions between monetary and fiscal policy. The period following the 2008 crisis was one of monetary dominance—that is, central banks could freely set interest rates and pursue their objectives independent of fiscal policy.
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A key question for policy is what determines the winner of any contest between fiscal and monetary dominance. Legal guarantees of central bank independence are insufficient, by themselves, to guarantee monetary dominance: legislatures can threaten to change laws and international treaties can be ignored, which could cause a central bank to hold off its preferred policy. To promote monetary dominance, the central bank must remain well capitalized: if it requires frequent recapitalization from the government, the central bank looks weak and risks losing public support. Central banks with large balance sheets that contain many risky assets and pay interest on the reserves to private banks may have large losses as interest rates rise. Those losses could result in increased pressure from fiscal authorities to refrain from raising interest rates.

I haven’t written about drones for a long time. Let’s fix that:

The global commercial drone market hit US$8.15-billion in 2022, and it will rise to US$47.38-billion by 2030, according to Strategic Market Research – and North America is the leading market for commercial drone applications. The combination of automation with drone technology brings together two rapidly advancing fields in new and increasingly complex ways. The global autonomous drone market is expected to be worth US$56.5-billion US by 2030, up from US$15.5-billion today, according to a report by Markets N Research.

Those applications cut across industries, with both technological advances and growing adoption in the construction, agricultural and logistics industries driving the market.
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Drones also offer significant potential advantages for delivery services, says Dan O’Toole, CEO and founder of Dronedek, which is developing smart technology-enabled mailboxes for autonomous drone deliveries.

As they mature, drone delivery services can offer cost and time savings over traditional methods, with added benefits like cutting the number of vehicles on the road and reducing labour needs, Mr. O’Toole says. Data released by McKinsey earlier this year indicated the number of daily drone deliveries continues to grow and that as it matures, the tech has the potential to lower both costs and carbon emissions compared with other forms of delivery transport.

“Drones could become an important part of the delivery supply chain,” the report reads, noting that more than 2,000 commercial drone deliveries took place each day in early 2022.

Yes! We want drone delivery! It’s 4am! Where’s my pizza?

Good news from the justice system!

After a 17-year court battle, an Ontario judge has ruled in favour of retail investors who suffered losses as two Canadian companies had let big investors make profitable, improper trades in a number of their funds.

Ontario Superior Court Justice Markus Koehnen in February found that both CI Mutual Funds Inc. and AIC Limited, which is now known as AIC Global Holdings Inc., breached their duty of care to prevent market-timing trades in their funds.
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The class action includes any investors who held money in AIC funds from Jan. 1, 1999, to Sept. 30, 2003, or CI Mutual funds from Sept. 1, 1998, to Sept. 30, 2003. Counsel for the plaintiffs estimate damages to investors could total as much as $674-million.

“There was ample evidence before me to demonstrate that the standard of care during the class period required the defendants to be aware of the dangers of frequent trading in and out of their funds and take reasonable steps to prevent it,” Justice Koehnen said in the court decision. “The harm that frequent trading causes to long-term unitholders has been known for decades.”
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Justice Koehnen said in his decision that mutual fund prospectuses – documents that are provided to investors upon purchasing a fund – warned that frequent trading caused harm to funds and could result in fees of up to 2 per cent being charged to participants.

Despite the contents of their prospectuses, the defendants not only failed to take steps to prevent frequent trading or charge the fees set out in their prospectuses when it occurred, they facilitated the practice by entering into “switch agreements” that allowed certain investors to switch in and out of funds for a much lesser fee of only 0.2 per cent.

The press always gets the issue wrong. The issue isn’t frequent trading, per se, but allowing trades based on stale prices. The fund companies were either crooked or stupid: I don’t care which, I’m just hoping they get bankrupted by the judgement.

The New York Fed has updated the Global Supply Chain Pressure Index:

• Global supply chain pressures decreased considerably in February and are now below the historical average.
• There were significant downward contributions by the majority of the factors, with the largest negative contribution from European Area delivery times.
• The GSCPI’s recent movements suggest that global supply chain conditions have returned to normal after experiencing temporary setbacks around the turn of the year.

BIS has released a working paper by Sonya Zhu titled Volume dynamics around FOMC announcements:

Focus
From 1994 to 2011, about 80% of excess returns in the equity market could be obtained in the 24 hours before scheduled Federal Open Committee (FOMC) announcements. In the standard economic paradigm, price is determined through trading between buyers and sellers. The 1987 market crash demonstrated that the mechanics of trading can significantly affect market prices. To shed light on the price formation process, this paper studies the volume dynamics around FOMC announcements.

Contribution
I quantify the volume changes in the stock market around FOMC announcements using intraday data. Most studies that analyse the impact of FOMC announcements on the stock market concentrate on price dynamics. In comparison, the evidence on volume dynamics is scant. I also link the FOMC volume dynamics to a theory of discretionary liquidity trading. Lastly, I examine the FOMC volume dynamics for individual stocks and link it to firm characteristics.

Findings
Turnover volume in the stock market decreases before FOMC announcements and increases afterward. Additionally, absolute order imbalance increases ahead of FOMC announcements, especially when the announcements are accompanied by policy rate changes. These findings are consistent with a theory in which some liquidity traders strategically choose to avoid trading at times when private information is present in the market. The FOMC volume dynamics are also found to be more pronounced for stocks that are more exposed to discretionary liquidity trading. On average, one third of the pre-FOMC price drift can be attributed to the volume dynamics and liquidity shocks.

Abstract
The stock market volume decreases in anticipation of FOMC announcements and increases afterward. I develop a stylized model and attribute the volume dynamics to discretionary liquidity trading resulting from the presence of private information. Consistent with the model’s prediction, I find information asymmetry increases ahead of FOMC announcements, especially before policy rate changes. Using firm-level high-frequency data, I also find, in the cross-section, that volume changes around these events are particularly stronger for stocks that are more exposed to discretionary liquidity trading. Volume dynamics and liquidity shocks can explain around one third of the pre-FOMC price drift

The Boston Fed has released a Research Department Working Paper by Lara Loewenstein and Paul S. Willen titled House Prices and Rents in the 21st Century:

This paper introduces a framework for interpreting fluctuations in house prices using a new data set of transactions involving single-family and small multifamily homes. The data set includes information on owner- and renter-occupied properties, and it includes sale and rent transactions. The data enable the authors to measure price growth on both types of properties and to calculate a price-to-rent ratio using only renter-occupied properties—properties that are explicitly comparable.

The authors look at the potential drivers of house-price and rent movements during their sample period of 2001 through 2021. These include increases in preferences for housing (preference shocks) and beliefs about future house-price price growth (expectation shocks). Expectation shocks, which generate self-fulfilling price increases, are often the cause of housing bubbles.

While each of the shocks that the authors examine can increase house prices, their implications for the prices of renter-occupied housing, owner-occupied housing, and rent differ. By examining changes in rent, in the price-to-rent ratio, and in the ratio between the prices of owner-occupied houses and renter-occupied houses (the price-to-price ratio), the authors assess which type of shock can best explain the house-price booms of the early 2020s and the early 2000s.

Key Findings

The sources of growth in house prices varied during the sample period. Early in the period, the price-to-rent ratio and the price-to-price ratio determined house-price growth, while rent growth was relatively minimal. But in the latter years, rent growth became more important and was the main driver of house-price growth during the boom at the start of this decade.

According to theory, positive expectation shocks raise the price-to-rent ratio as households and investors buy houses partly in anticipation of future capital gains. Expectation shocks are a plausible explanation for the boom of the 2000s but not for the boom of the 2020s.

An increase in preferences for housing raises both rents and houses prices, according to theory, leaving the price-to-rent ratio unchanged. As noted above, rent growth was the main driver of house-price growth at the start of this decade. The authors find that of the 15 percentage point growth in house prices in 2021, about two-thirds came from nominal rent growth and only about one-quarter came from growth in the price-to-rent ratio. They therefore conclude that a preference shock is a plausible explanation for the boom.

US factory orders fell, but but by less than expected:

Factory orders dropped 1.6% after increasing 1.7% in December. Economists polled by Reuters had forecast orders declining 1.8%. Orders rose 4.3% on a year-on-year basis in January.
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The drop in factory orders in January mostly reflected a 13.3% decline in transportation equipment, which followed a 15.8% jump in December. Transportation equipment orders were weighed down by a 54.5% tumble in orders for civilian aircraft. Motor vehicle orders increased 1.3%.

Orders for machinery shot up 1.6%, while bookings for computers and electronic products rose 0.6%. Orders for electrical equipment, appliances and components surged 1.3%. There were also gains in orders for primary metals, fabricated metal products, as well as defense aircraft.

Shipments of manufactured goods increased 0.7%, the biggest gain since August, after falling 0.6% in December. The stock of manufactured goods at factories was unchanged after rising 0.4% in December. While that bodes well for future production, that could chip at gross domestic product this quarter.

Unfilled orders at factories were unchanged as a jump in unfinished work for computers and related products were offset by decreases in consumer goods.

Here’s a sign of the times from Vancouver:

Nearly six years after Vancouver became the largest city in Canada to commit to a living wage, councillors voted to end the initiative.

In a closed-door meeting in January, council approved the action and directed staff to implement what it calls a “fair wage,” by calculating the average of five years of living wages.

The city says in a statement that the living wage rate for 2023 would have gone up more than 17 per cent to just above $24 an hour, immediately influencing its pay structure.
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The living wage is the hourly amount two adults working full time must earn to support the basic needs of a family of four, but it does not cover debt repayment or savings for retirement.

The hourly living wage for Metro Vancouver is set at $24.08, but Anastasia French, with Living Wage for Families BC, says Vancouver’s change will cut earnings for its workers and contractors to at least $20.90 an hour.

We wouldn’t want to hike the property tax now, would we? But it could also be a good-faith effort to incorporate the subsidizing effect of rent control into the Living Wage calculation. The discussion of the calculation is interesting:

The BC living wage calculation has relied on the Canada Mortgage and Housing Corporation (CMHC) annual rental market survey for our estimate of rent, using its data for median monthly rent for units with three or more bedrooms in the primary rental market.

This number has always represented a very modest rent budget in Metro Vancouver and understated the financial pressures faced by families that have to move because it aggregates the rents paid by long-term tenants who have benefitted from BC’s rent control measures and those who have recently moved and typically pay higher rents. However, as vacancy rates have declined and housing prices spiked in Metro Vancouver and many other BC communities over the last 14 years, the difference in rents that new and long-term tenants are paying has sharply widened. Further complicating matters, the CMHC data only include purpose-built rental units, which are referred to as the primary rental market. The secondary rental market (i.e., renting privately owned houses and condos or basement and other secondary suites) has grown significantly since the living wage methodology was first developed but is not captured in the median rent figure.

As a result, the CMHC data on primary rental market median rents became an increasingly less reliable measure of the rents families are paying, and it now no longer reflects a realistic rent budget for a family with two young children (and likely hasn’t for the last few years). This is true both in Metro Vancouver and elsewhere in BC, as we heard loud and clear from our community calculation partners during the 2021 round of living wage calculations. To develop a more realistic estimate of the rent cost faced by families, we used 2016 census data to estimate the “moving penalty” faced by households who had to find housing within the previous year. We use the 2016 census data to estimate this moving penalty because it is the latest census data available at the time of writing.

The census data confirm that families with children move frequently. Within the previous year, 25 per cent of BC couple families with children had moved.6

These families paid considerably higher median rents—12 per cent higher in 2016 compared to the overall median (i.e., including longer-term and new tenancies). The data also show that the moving penalty is higher for households living in three-bedroom housing than for those living in one- or two-bedroom units.

We apply this moving penalty to the CMHC median rental figures for 2022 to get a more reliable estimate of the rent cost pressures faced by families in BC.

For Metro Vancouver, the moving penalty increases the living wage family’s rent costs from $1,952 (the CMHC median rent figure) to $2,186 monthly.

So if I’m reading that right, the Living Wage people are assuming that their model family moves each and every year and never gets any benefit at all from rent control. That doesn’t sound right. The basic idea sounds good, but it seems to me that their implementation assumption is a little extreme.

I have long thought that rent control has the unanticipated result of decreasing labour mobility, so it’s nice to see the concept get a nod here. I don’t advocate eliminating rent control; but I think the annual allowable increase should be inflation plus an increment (say, 1%?), rather than inflation with a cap or even a freeze, depending on which way the wind is blowing.

On a positive note, TC Energy’s pumped storage project took a step forward:

TC Energy Corporation (TSX, NYSE: TRP) (TC Energy or the Company) announced today that Meaford Municipal Council passed a resolution of support for the Company’s proposed Ontario Pumped Storage Project subject to conditions outlined below.

This development project is a transformative 1,000-megawatt clean energy storage facility, proposed for construction on the Department of National Defence’s 4th Canadian Division Training Centre in Meaford, Ontario. As one of Canada’s largest energy storage proposals, the project would provide safe, reliable power, support made-in-Ontario economic growth, and aid in the transition to emission-free power generation.
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The Meaford Council’s support is contingent on TC Energy fulfilling the following conditions: 1) Reasonable cost recovery by TC Energy for all costs incurred by the Municipality; 2) Development of a regulatory plan to address the Municipality’s role throughout the project’s lifecycle; 3) Successful negotiation of a Community Benefits Agreement with the Municipality; and 4) Completion of all applicable federal and provincial environmental assessment processes and obtain all associated permits and approvals.

The IMF has published an article by Claudio Borio titled MONETARY POLICY UNDER TEST:

In the latest Bank for International Settlements Annual Economic Report, we offer a different perspective on the inflation process, one that yields a more sobering message. It sees inflation as a two-regime process—a low- and a high-inflation regime —with self-reinforcing transitions from low to high.

Inflation behaves very differently in the two regimes.

When inflation has settled at a low level, what we measure as increases in the overall price level mostly reflect price changes in specific sectors that are only loosely correlated with one another. Those price changes tend to leave but a temporary imprint on the inflation rate itself. Equally important, wages and prices, which are at the core of the inflation process, are only loosely linked to each other. As a result, inflation has certain self-stabilizing properties.

By contrast, a high-inflation regime has no such properties. The importance of the common component of price changes is much greater, wages and prices are more tightly linked, and inflation is especially sensitive to changes in salient prices, such as those of food and energy, as well as to fluctuations in the exchange rate.

The European inflation report was mixed:

Consumer prices in the 20 countries that use the euro as their currency rose at an annual rate of 8.5 percent in February, down slightly from January’s rate of 8.6 percent. Year-over-year rates have been declining since reaching a peak 10.6 percent in October.

But some of the largest economies showed troubling increases, and core inflation — a measure that excludes the most erratic categories like food and energy — rose to a record high of 5.6 percent in February, from 5.3 percent.

Interesting things are happening with mortgages:

New data from CIBC show that $52-billion worth of mortgages – the equivalent of 20 per cent of the bank’s $263-billion residential loan portfolio – were in a position where the borrower’s monthly payment was not high enough to cover even the interest portion of the loans. The bank has allowed these borrowers to stretch out the length of time it takes to pay off the loan, which is known as the amortization period. As well, borrowers are adding unpaid interest onto their original loan or principal.
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CIBC’s filing, for the first quarter that ended in January, is the only one to provide increased transparency on the impact of higher interest rates on its variable-rate portfolio. The same filing said that in the fourth quarter, $39-billion worth of mortgages were negatively amortizing. That grew to $52-billion in the first quarter, said the footnote in the filing. Last summer, the bank said its borrowers were not yet putting unpaid interest onto the principal.
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The most recent quarterly filings from the big banks show that a chunk of their mortgage loans have amortization periods of more than 30 years.

At BMO, the proportion of residential mortgages with amortization periods longer than 30 years reached 32.4 per cent in January. At CIBC, the percentage was 30 per cent. At TD it was 29.3 per cent and at Royal Bank of Canada, it was 25 per cent, according to their regulatory filings.

BIS has released a bulletin by Sarah Bell, Michael Chui, Tamara Gomes, Paul Moser-Boehm and Albert Pierres Tejada titled Why are central banks reporting losses? Does it matter?:

Key takeaways

• • Rising interest rates are reducing profits or even leading to losses at some central banks, especially those that purchased domestic currency assets for macroeconomic and financial stability objectives.
• • Losses and negative equity do not directly affect the ability of central banks to operate effectively.
• • In normal times and in crises, central banks should be judged on whether they fulfil their mandates.
• • Central banks can underscore their continued ability to achieve policy objectives by clearly explaining the reasons for losses and highlighting the overall benefits of their policy measures.

Central banks can mitigate the risk of misperception through effective communication to their stakeholders. They can clarify the context for potential losses, noting how the measures were undertaken to ensure price and economic stability over the medium and long-term for the benefit of households and businesses, which incidentally boosted economy-wide income and hence the overall tax base. In their public communications, central banks can prepare stakeholders for losses at the outset of policy interventions, explaining that APPs or other programmes carry financial risk. And they can reiterate these messages when losses are imminent, explaining how central bank finances work and that losses are not relevant for policy. Several central banks have already done so when publishing their recent financial statements or through other public communications.11

To conclude, a central bank’s credibility depends on its ability to achieve its mandates. Losses do not jeopardise that ability and are sometimes the price to pay for achieving those aims (Nordstrom and Vredin (2022)). To maintain the public’s trust and to preserve central bank legitimacy now and in the long run, stakeholders should appreciate that central banks’ policy mandates come before profits.

TD Bank’s acquisition of New Horizons might be in trouble:

TD-T … prospects of closing a major acquisition in the United States took a hit Wednesday after its merger partner, FHN-N … , disclosed that the deal is struggling to receive regulatory blessings in a timely manner.

In an annual filing, First Horizon, which is based in Memphis, Tenn., disclosed that TD TD-T … recently told its management team that TD does not expect to get the required regulatory approvals in time to complete the deal before May 27, which is when their merger agreement is set to expire.
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First Horizon disclosed in its annual filing Wednesday that “receipt of regulatory approvals for the pending TD merger has taken longer than originally anticipated.”

First Horizon’s shares closed down 11 per cent to US$22.14. TD agreed to pay US$25 a share in a deal worth US$13.4-billion.

The IMF looks at its recent inflation forecasts:

The IMF produces and publishes its World Economic Outlook forecasts on a quarterly basis—these include GDP growth and inflation. We recently dissected the errors in our core inflation forecasts for the world’s economies—that is, forecasts of inflation stripped of the volatile effects of food and energy price swings.
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We consider four factors that, with the benefit of hindsight, help us rationalize inflation underpredictions. First, as the pandemic shock hit, policymakers were quick to provide fiscal support to avoid deep scarring from the crisis. Still, forecasts projected some scarring, and output gap projections for 2021 foresaw a large contraction in economic activity compared with potential. Only in retrospect did it become clear that the output slump, relative to potential, was not as dire. Most world economies—almost 80 percent of world GDP—are now known to have had smaller output gaps than projected in early 2021, an indication that the rapid recovery in demand exceeded expectations.
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Second, the strong demand recovery met highly strained supply chains. Supply chain bottlenecks are normally caused by either demand or supply shocks, rarely a combination of the two.
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Third, the demand-supply imbalances were amplified by the shift in demand from services to goods during the early lockdown period as the leisure and hospitality sector mostly ceased functioning. This temporarily reversed a trend seen over the past couple of decades of goods inflation that was lower than services inflation.
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Fourth, unprecedented labor market tightness, which persists to this day in some advanced economies, confounded some of the previous factors. Measured by the ratio of vacancies to unemployment, labor markets have been particularly tight in Australia, Canada, the UK, and the US, significantly correlating with the magnitude of these countries’ core inflation forecast errors.
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One peculiar feature of the policy response to the pandemic in 2020 was the aggressive fiscal stimulus, which according to some observers resembled wartime spending. Importantly, this stimulus was part of the forecasters’ information set at the time. Our analysis shows that the size of the COVID-19 fiscal stimulus packages announced by different governments in 2020 correlates positively with core inflation forecast errors in advanced economies in 2021.

PerpetualDiscounts now yield 6.31%, equivalent to 8.20% interest at the standard equivalency factor of 1.3x. Long corporates yielded 5.25% on 2023-2-24 and since then the closing price has changed from 14.72 to 14.74, an increase of 13bp in price, with a Duration of 12.20 (BMO doesn’t specify whether this is Macaulay or Modified Duration; I will assume Modified) which implies a decline in yield of about 1bp since 2/24 to 5.24%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) has widened slightly (and perhaps spuriously) to about 295bp from the 290bp reported February 22.

Mixed news on the economy:

On Tuesday, Statistics Canada said real gross domestic product was unchanged in the fourth quarter of 2022 after five consecutive quarters of growth.
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After two quarters of record inventories, businesses accumulated less inventories in the fourth quarter, weighing significantly on real GDP growth.

Real business investment also declined for a third consecutive quarter as higher interest rates weakened housing investment in 2022.

In December, the economy contracted by 0.1 per cent as goods-producing industries declined.
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A preliminary estimate from Statistics Canada suggests the economy bounced back in January, posting 0.3 per cent growth in real GDP.

Last month, the economy added 150,000 jobs, suggesting there’s still steam on the hiring front.

Economic models are getting more complicated:

But traditional models ignore income and wealth inequalities and assume that what’s good for the typical consumer, as defined by the models, must be good for the broader economy.

A newly developed class of quantitative models is particularly suited to guiding central bankers across this new monetary policy territory, in which the wealth and income distributions are a central consideration. Known as HANK models, they combine heterogeneous agent models (macroeconomists’ workhorse framework for studying income and wealth distributions) with New Keynesian models (the basic framework for studying monetary policy and movements in aggregate demand).

HANK models impart new lessons about redistribution and the heterogeneous effects of monetary policy and shed new light on traditional central bank objectives of inflation control and output stabilization. Here are four broad lessons, and some preliminary thoughts, on how HANK models may illuminate our current high-inflation environment.
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The relative size of indirect versus direct channels depends mainly on the aggregate marginal propensity to consume (MPC), which measures how much of a household’s increase in income gets spent and how much is saved. In traditional models, which try to predict the impact of monetary policy on the typical consumer, the MPC is tiny, and consequently the indirect channels are insignificant. HANK models, instead, are built to be consistent with empirical evidence on consumption and saving behavior. Their aggregate MPC is roughly 10 times larger, and thus the various indirect effects dominate the transmission mechanism.
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Many channels of monetary policy have divergent, and sometimes opposing, effects on different households. For example, the direct effects of interest rate changes depend on households’ balance sheets: rate cuts benefit debtors, whose interest payments decrease (such as households with adjustable-rate mortgages) and hurt savers, whose interest income falls. Monetary policy also has heterogeneous effects through its impact on inflation. First, inflation benefits households with lots of nominal debt that is revalued downward. Second, prices rise more for some goods than for others, and different households consume these goods in unequal proportions. Finally, the indirect effects of monetary policy on household disposable income are uneven because some households are more exposed to fluctuations in aggregate economic activity than others.
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By introducing income and wealth inequality, HANK models reestablish a strong link between the two, showing how monetary policy leaves consequential “fiscal footprints.” When the central bank raises interest rates, the treasury’s borrowing costs increase, and the increase must be funded by raising taxes or lowering expenditures, now or in the future, or through future inflation. In HANK models, the details of how and when the government makes up this fiscal shortfall, and which households bear the burden, have a tremendous influence on the overall effects of interest rate hikes.
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Studies of optimal monetary and fiscal policy in HANK models agree that the benefits of aggregate stabilization are dwarfed by the gains from directly alleviating hardship. Optimal policies in HANK models almost always favor redistributing toward hand-to-mouth households in downturns.

One may be tempted to read this as endorsement of using monetary policy to share prosperity and mitigate adversities. But monetary policy is a blunt tool for redistribution or insurance. HANK models tell us that fiscal policy is likely better suited for this task because it can be targeted more precisely to those in need of support.