Could the Bank of Canada Have Prevented the Pandemic Inflation – Or Was it the Cost of a Crisis?

July 17, 2025 – A new C.D. Howe Institute report argues it was fiscal policy – not monetary – that drove the 2021/2022 inflation surge and that there was little the Bank of Canada could have done to prevent it.

In “An Assessment of Canada’s 2021-22 Inflation Surge,” economists David Andolfatto and Fernando M. Martin counter those who criticize the Bank of Canada for being too slow to react to inflationary pressure. They argue instead that had the Bank raised interest rates earlier, it might have hindered Canada’s economic recovery and added to the fiscal burden during a period of intense public spending.

“The inflation we experienced was not just the result of monetary policy delay,” said Martin, a Senior Policy Advisor at the Federal Reserve Bank of St. Louis. “It was a consequence of injecting billions of dollars into the economy to address a public health and economic emergency. In that context, a rise in the price level was not only inevitable – it was perhaps the least disruptive way to finance such spending.”

The authors note that much of the necessary spending was not matched with plans for future taxation or spending cuts – effectively creating an “inflation tax” on the broader population. While not generally favoured, an inflation tax has been used historically to finance wars, which were associated with spikes in inflation and patterns similar to the COVID-19 crisis.  

“There are no free lunches when it comes to emergency spending,” said Andolfatto. “Someone must ultimately bear the cost – whether through taxes, debt, or inflation. In this case, inflation played a temporary but necessary role in financing large-scale transfers to Canadians in need.”

Specifically, the report draws historical parallels with the Korean War period, where tax rate increases followed inflation and military spending. Unlike that episode, however, Canada’s COVID-19 response leaned heavily on debt-financed spending. The report cautions that without anchored fiscal policy, interest rate hikes become less effective and more economically painful.

“This wasn’t a policy mistake. It was the price of pandemic insurance,” note Martin and Andolfatto. “The real error was failing to communicate that trade-off clearly to Canadians. In the 1950s, the role of the central bank and its relationship to fiscal policy were more clearly established. It’s time we revisit that understanding.” 

Ultimately, the report concludes that the 2021–22 inflation surge should not be seen solely as a policy failure, but as an unintentional – though ultimately defensible – means of financing an unprecedented crisis. The episode, they argue, should serve as a reminder of the importance of central bank credibility and the need for transparent coordination between monetary and fiscal authorities.

Read the Full Report

For more information, contact: David Andolfatto, Professor and Chair, Department of Economics, University of Miami; Fernando M. Martin, Senior Economic Policy Advisor, Federal Reserve Bank of St. Louis; and Raquel Schneider, Communications Officer, C.D. Howe Institute, 647-805-3918, rschneider@cdhowe.org.

The C.D. Howe Institute is an independent not-for-profit research institute whose mission is to raise living standards by fostering economically sound public policies. Widely considered to be Canada’s most influential think tank, the Institute is a trusted source of essential policy intelligence, distinguished by research that is nonpartisan, evidence-based and subject to definitive expert review.

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