March 2, 2017 / 6:14 PM / in 9 months

UPDATE 1-Carbon pricing to have transitory inflation effect -Bank of Canada

MONTREAL, March 2 (Reuters) - The introduction of carbon pricing in Canada will have a transitory effect on inflation and the profound structural changes involved will likely hit supply and demand, a senior Bank of Canada official said on Thursday.

Deputy Governor Timothy Lane said the central bank will need to consider those impacts carefully as it conducts monetary policy during the shift mandated by the federal government, adding that if “we get the price right, we can do a lot right.”

“We will continue to pursue low, stable and predictable inflation amid the structural shift to a lower-carbon economy,” Lane said in prepared remarks to the Finance and Sustainability Initiative in Montreal.

Lane said the central bank will look through the transitory effect of carbon pricing because it is due to a one-off structural change, noting that the introduction of carbon pricing was evident in the most recent monthly inflation data.

“But the more profound structural changes that will be taking place are likely to have important consequences for both aggregate supply and demand, which we will need to consider carefully as we conduct monetary policy,” he added.

Canada and most of its provinces agreed in December to introduce a landmark national carbon price. Under the plan set by Prime Minister Justin Trudeau, carbon pollution would cost C$10 a tonne in 2018, rising by C$10 a year until it reaches C$50 in 2022. The provinces can either implement a carbon tax or a cap-and-trade market.

Lane said that while some are skeptical that carbon pricing will motivate changes in behavior, experience confirms that price incentives work, adding that properly aligned incentives can reduce the need for pervasive regulation.

While carbon pricing has economic consequences, they need not all be negative, Lane said, noting that new revenue streams can be used to help companies remain competitive and lower taxes in other areas.

Lane said that if rising temperatures were to bring increasingly frequent adverse shocks, the central bank would need to factor that into its policy stance and risk management assessment.

“In the short run, they may be viewed as a downside risk to economic activity in Canada, which we would take into account in our risk management framework for monetary policy,” Lane said.

In the longer term, the downside turns from risk to near-certainty, he added, with a lower growth track for the Canadian economy than could otherwise be achieved. (Additional reporting by Andrea Hopkins and Leah Schnurr)

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