Lower inflation, but will it last?

Statistics Canada reported this morning that Canada's consumer price index (CPI) fell 0.9 percent in the month of March.  This dropped the year-on-year rate to 0.9 percent, from 2.2 percent in February.  The weakness in the month was primarily due to the stunning fall in the price of energy, as six of the eight major components of the index actually rose in the month.  Excluding energy, the year-on-year rise in CPI was 1.7 percent.

The deflationary trend is set to continue in the near term, not least because of the collapse in oil prices, though it is important to note that the widely publicized fall in oil prices to below zero earlier this week was mainly the result of a futures contract expiry.  In the medium and longer term, however, things are less clear.

I have written previously that we are dealing with a combination of a demand shock and a supply shock, something that is without any real precedent and something that economics has few tools to analyze.  The demand shock, with large numbers of people losing their jobs and the majority of the world's population under stay-at-home orders, is there for all to see.  Most of the emergency measures that governments have announced have correctly been aimed at keeping workers and their families afloat through the worst of the pandemic. If that works as it should, demand could revive quite sharply when the lockdowns end.

Take a look at this story  -- plenty of Canadian consumers, including your blogger, are spending far less than usual at the moment.  Flush bank accounts could well translate into a surge in customer spending as and when the "new normal" starts to take shape, even if governments move swiftly to unwind some of the extraordinary stimulus that has been put in place over the last few weeks.

But what about the supply shock?  Once consumers start opening their pocketbooks again, will there be an ample supply of goods and services for them to buy?  Retailers have been falling by the wayside all around the world; airlines are in deep trouble; large numbers of small businesses have closed, never to reopen. If half the mom-and-pop burger joints in your town are gone forever, it isn't hard to guess what will happen to prices at the remaining half when the crisis is over. That may well be replicated in many sectors of the economy.

Right now, a modest uptick in inflation resulting from a rebound in the economy seems like it would be a nice problem to have.  It's certainly a better outcome than the prolonged and painful deflation that some commentators seem to be predicting.  It may also be the more likely outcome.