MNI INTERVIEW: BOC Gradualism May Withstand Tariffs: CD Howe
MNI (OTTAWA) - The Bank of Canada's downshift to gradual rate cuts next year is justified even with the economy facing U.S. tariffs and a historic immigration drop, because hits to supply and demand are likely to cancel each other out and leave inflation close to target, the head of a shadow monetary council told MNI.
"It could be that the situation the Bank of Canada faces really doesn't change very much," according to Bill Robson, head of the CD Howe Institute in Toronto, whose membership includes several former Bank officials. "In both cases there's a respectable argument that the supply side impacts are also quite important, and maybe important enough that it's a bit of a toss up which way that the tariffs or immigration affect the output gap."
Governor Tiff Macklem cut interest rates by 50bps for a second meeting Wednesday, and Robson said the message of going slower from here avoids perceptions that officials see the economy tanking. That signal is "one of the ways that you not just control expectations, but signal to people that it's not because you think the economy is about to disappear in a black hole," Robson said.
Back-to-back jumbo cuts have little precedent outside a crisis since the Bank adopted fixed meeting dates in 2000.
KEEPING IT NEUTRAL?
"Central banks really like to move things at 25 basis points" and the BOC is no different, Robson said. Economists predict a regular quarter-point cut in January and then a skip for at least one meeting in the first half of 2025.
The Bank said further cuts can be justified and pointed to lagging domestic growth alongside the threat of disruption if 25% U.S. tariffs are imposed. Canada is also switching from record immigration growth to a potential contraction in population as the job market softens. (See: MNI INTERVIEW: BOC Faces Recessionary Risk On Tariff Hit: Lane)
Growth has already lagged the Bank's projection in Q2 and again in Q3 when it was just 1% and unemployment is the highest since 2017 excluding the pandemic. Experts have told MNI shrinking per-person incomes amount to a hidden recession.
While Macklem said there has now been "substantial" relief and policy is no longer clearly restrictive, he has resisted discussing whether borrowing costs settle around staff estimates of the neutral range of 2.25%-3.25%. "You can be sure that the question of where the overnight range should be when the economy is growing sustainably with inflation 2% is always front and center," Robson said.
DOLLARS AND DEFICITS
"They don't see the kind of disinflationary pressure in the economy that would cause them to overshoot the neutral rate on the downside," he said.
Officials are also right to resist speculation around adopting a bias of protecting the Canadian dollar from further weakness even if tariffs shake the 75% of exports sent to the U.S., Robson said.
"If something like that happened, and the dollar were to take a hit, I think the Bank of Canada would be very ill advised to keep the overnight rate higher than they would have otherwise," he said. The currency must adjust to changes in the real economy and the pass-through of a low dollar to inflation is weaker than past decades, Robson argued.
The bigger risk of tight policy is the government's fiscal update Monday and the full budget next spring will offer more costly gimmicks ahead of an election, Robson said. (See: MNI INTERVIEW: Trudeau Deficit Cap Strained By Election Threat)
"After 10 years of running very substantial deficits and presiding over an economy that has performed quite poorly and is continuing to perform poorly, you have to ask whether the generally dismal climate and the fact that people have noticed that their living standards really haven't gone anywhere in real terms, makes this type of trick less appealing."