According to a scathing report by the C.D. Howe Institute, the Bank of Canada is set to lose upwards of $8.8 billion over the next few years.
"A lot of what determines the size of the losses comes down to what interest rates are going to be over the next two to three years," said Trevor Tombe, an economics professor at the University of Calgary and co-author of the report.
In the fall, the Bank of Canada posted its first loss in its 87-year history, losing $522 million in its third quarter.
The central bank expanded its assets significantly during the pandemic as part of its government bond-purchasing program. Also known as quantitative easing, the policy served the central bank's efforts to stimulate the economy.
That expansion in assets now costs the central bank, as it paid for the government bonds with the creation of settlement balances.
That problem is expected to persist as interest rates remain elevated. The interest charges the central bank pays on these settlement balances have exceeded the interest it earns on the government bonds.
The other factor influencing the size of the losses is how large financial institutions' deposits at the central bank are, said Tombe.
He added that the losses don't impact the Bank of Canada's ability to conduct monetary policy, but they pose a communications challenge for the central bank.
"Many will look at that and say, 'Well, doesn't that mean the bank is insolvent?"'
In December, Bank of Canada Governor Tiff Macklem noted that the size and duration of the losses would depend on the path of interest rates and the economy's evolution. "As interest rates increase, we are starting to incur net interest rate losses," he said.
However, he expects the Bank of Canada will return to positive net earnings after "a period of losses." Tombe said the central bank could lose between $3.6 billion and $8.8 billion over the next two to three years.
As of 2021, the central bank profited $160 billion. However, the central bank's policy decisions during the pandemic have led to the current predicament.
The Bank of Canada is now looking to the federal government for a solution to balance its books, as the federal government will inevitably cover the losses.
Tombe added that the appetite for solving the central bank's woes wholly depends on the political attention it receives hereon.
"Any other potential reputational hits that it takes might further erode public confidence in the institution," he said.
Tombe and his co-author recommend the Bank of Canada record the losses currently being incurred against future expected profits by running a deferred asset.
With the central bank expected to net profits after a "period of losses," it would hold onto them instead of remitting them to government coffers.
However, Tombe unveiled the need for an amendment to the Bank of Canada Act, which doesn't allow the central bank to hold on to profits. He said it would be a good opportunity to prepare the Bank of Canada for the next time it may incur losses.
"We should anticipate that we might find ourselves in a situation like this again," he added. "And this is an opportunity to potentially think about larger reforms to the Bank of Canada Act to ensure that we are ready for the next time."