In normal times, like today, or 2004, my subjective probability distribution for the average annual inflation rate over the next 5 years looks something like this:
The Bank of Canada tries to keep inflation between 1% and 3%, and targets the 2% midpoint of that range. In any one year, inflation will rarely fall below 1% or rise above 3%. And if we take a 5 year average of annual inflation rates, that is very unlikely to happen. And it is unlikely the Bank of Canada will change its inflation target in the near future, and if it did change the target it would probably give us a few years advance warning.
It is hard to remember what we thought in the past. It is especially hard to remember the things we were scared of in the past, when those things we were scared of happening did not in fact happen. Who wants to remember their silly nightmares?
But I do remember being scared in 2008. And one if the things I was scared of was a 1930's style deflation, where the price level fell, a lot. How far could the price level fall? Could I totally rule out a 50% fall in the price level, which would give an average 5-year inflation rate of minus 10%? (Yes, I know, I should take the geometric average.) Maybe the Bank of Canada and other central banks would totally fail to respond to the crisis, and people would lose confidence that they would respond, which would make the price level totally unanchored. If people think that fiat money is worth nothing, then it is worth nothing. And if people think that fiat money is worth everything, then it is worth everything.
That big deflation didn't happen of course. We know that now. But we didn't know that at the time.
When I was at my most scared, my subjective probability distribution for average inflation over the next 5 years probably looked something like this: