Make Inflation Indexing a Two-Way Street: Government Programs Should Ramp Up, and Down, with the CPI -- C.D. Howe Institute

TORONTO, Feb. 23 /CNW/ - Major inflation-indexed government programs in Canada respond to rises in the Consumer Price Index, but not declines, leading to increased spending and reduced revenues for the government, according to a study released today by the C.D. Howe Institute.  With a debate underway about whether it's time for the Bank of Canada to move to a lower inflation target in a new inflation-control agreement, policymakers should address these asymmetries, say William B.P. Robson and Philippe Bergevin in The Costs of Inflexible Indexing: Avoiding the Adverse Fiscal Impacts of Lower Inflation.

These asymmetries have received no attention until now, and Bergevin and Robson find that inflation-indexed government programs in which transfers to people and the taxes they pay increase when the Consumer Price Index rises, but do not decline when it falls, may have big impacts on taxpayers, transfer recipients, and government budgets.

One implication of these asymmetries is that the real value of seniors' benefits and government pensions would be higher, over potentially long intervals, under monetary policy regimes that produce lower inflation or stable prices. The impact on the Personal Income Tax, the Canada Child Tax Benefit and the GST/HST credit is even larger because key thresholds and transfers in these programs, during deflationary periods, ratchet up permanently.

The authors argue that rigidities and asymmetries associated with these programs should not be an obstacle to changing the Bank of Canada's target, which is justifiable for other reasons. They should be seen, rather, as problems to be solved. One solution would be for the federal government, when the Bank of Canada adopts a new set of targets, to initiate changes to make all indexed programs respond symmetrically to upward and downward shifts in the CPI.

For the study go to: http://www.cdhowe.org/pdf/Commentary_322.pdf

SOURCE C.D. Howe Institute

For further information:

William B.P. Robson, President and CEO;
Philippe Bergevin, Policy Analyst, C.D. Howe Institute,
416-865-1904


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