–Governor Repeats: Too Early to Think About Rate Cuts; To Make Decisions When Economy Needs Them
(MaceNews) – The Bank of Canada’s policymakers are prepared to raise interest rates again if inflation shows signs that it is stuck well above their 2% target, Governor Tiff Macklem said in a speech at the Toronto Regional Board of Trade
on Thursday.
The central bank is in pausing mode after last year’s aggressive credit tightening on condition that inflation will ease further broadly in line with its projection, thus it is “too early” to consider cutting rates, Macklem said, repeating his earlier remarks during the question-and-answer session.
“We know that monetary policy works with a delay, and the effects of the tightening we’ve undertaken to date have not yet fully worked their way through the economy,” the governor said in his speech. “If we start to see signs that inflation is likely to get stuck materially above our 2% target, we are prepared to raise rates further.”
Macklem noted that the bank’s Governing Council is watching for the upside risk to inflationary pressures even after the annual consumer inflation rate has come down to 4.1% in March from the recent peak of 8.1% hit last June.
“We’re forecasting inflation to fall quickly to about 3% this summer and to reach the 2% target near the end of 2024,” he said. “The projected decline from 3% to 2% is both slower and more uncertain.”
In response to questions from the audience, Macklem said, “It is too early to be really thinking about an interest rate cut, but … at some point we will get there.”
The bank’s policymakers must be “forward-looking” as monetary policy takes time to have a full impact on the entire economy, he said.
It all depends on how the economy and prices will evolve, he added.
“We may get 2% inflation but there may be ongoing pressure in the economy and you need to keep interest rates high just to keep 2% inflation,” Macklem said, “Or it may be that there is less pressure and you can bring it down. We will take those decisions when we get there.”
To describe the current policy stance, the governor said, “We are trying to balance between over-tightening and under-tightening.”
“Our interest rates are high enough to bring inflation back to target,” he added.
Later he told reporters that if all the conditions are pointing to inflation stabilizing at 2%, the bank’s policymakers can begin considering whether it is “time to start easing off a bit on the tightening.”
“But right now, we’ve been very clear that we are pausing to assess whether interest rates are high enough to get us back to the 2% target,” he said. “That doesn’t sound like a conversation about cutting, does it?”
In the speech, Macklem said the bank is equipped for working on both price stability and financial stability at the same time without compromising either goal.
But he also said price and financial stability can interact.
“Financial stress tightens financial conditions — this means that loans become more expensive and harder to get,” he explained. “In the current environment, monetary policy has already tightened financial conditions — that is the intended consequence of our policy rate increases. But if financial stress were to lead to more tightening than expected and if this were to persist, we would need to take this into consideration as we set the policy rate to achieve our inflation target.”
“Otherwise, we would risk overtightening,” the governor added later at a news conference.
The spillover effects of the recent banking turmoil in the U.S. and Europe to Canada have been muted as Canada has a strong banking system, supervision and regulation, Macklem said.
But he also urged financial managers to adjust to higher interest rates. “This underscores the importance of sound risk management in financial institutions and vigilant supervision to identify and manage risks as the economy slows and the cost of funding adjusts to higher interest rates,” he said.
“The biggest downside risk to our forecast is a severe global recession,” he said, repeating his earlier remarks. “Financial instability could amplify or even trigger a sharper slowdown of the global economy.”
Asked about the impact of rates hikes on the housing market, the governor replied, “The housing market is very important but we have to take a look at the whole economy.”
The domestic housing market is still declining but it is expected to start picking up in the second half of the year, he said, adding that the Canadian government policy to bring in a high number of immigrants will support both labor supply and demand creation, including spending on housing.
The governor maintained the bank’s latest view that the Canadian labour market is still tight. The unemployment rate, at 5%, remains near a record low, and employment growth in recent months has been stronger than expected, he said.
Good news for Canada is that labour supply has also been growing faster than anticipated as more women and immigrants join the workforce.
“But the strong demand for labour is still quickly absorbing the increased supply, and wage growth has yet to moderate,” Macklem warned. “Unless productivity growth surprises us with a strong increase, persistent wage growth in that range (4% to 5%) will make it difficult to achieve the 2% inflation target.
The central bank alone cannot bring inflation back to target, he said.
“Businesses say that they expect prices will grow more slowly as commodity prices fall, supply chains improve and demand softens,” he said. “They also say that they expect the size and pace of price changes to decline, which suggests their price-setting practices are gradually shifting closer to what they were before the pandemic.”
“We will need to see continued progress toward normalization of corporate price-setting behaviour for inflation to get back to the 2% target.”
The focus is also on the inflation outlook among households and businesses.
“Long-term inflation expectations remain consistent with the 2% target, which is a good thing,” Macklem said “But we need to see short-term expectations coming down so that companies get back to normal price-setting behaviour and wage growth moderates.”