MNI INTERVIEW: BOC 'Hard Discussion' On 50BP Cut- Ex Staffer

MNI (OTTAWA) - The Bank of Canada will keep cutting interest rates well into next year and officials will consider half-point reductions if necessary, former BOC staffer David Dupuis told MNI. 

“The path for interest rates is steady, gradual decline all the way up to the spring more likely than not,” according to Dupuis, who also spent a year as an economist at Canada's finance department and now teaches at the University of Sherbrooke. 

Governor Tiff Macklem has cut rates in three quarter-point moves since June to 4.25% and Dupuis said the Bank must keep going to at least reach the top of the range for neutral policy, which he estimates at 3%. With modest slack in the economy and CPI back within the Bank's target band since January, Dupuis agrees with officials who say there's now a risk of undershooting on inflation.

“Fundamentally the question is how fast should we go back to neutral,” Dupuis said. “There’s going to be hard discussions in the coming weeks to see if we ourselves should be going fifty.”

Given Canada's neutral interest rate could be as low as 2% and there are only half a dozen meetings into the middle of next year, the economy could run into trouble without faster relief, Dupuis said. (See MNI INTERVIEW: BOC Open To 50BP Oct Cut: Ex Adviser Williamson)

SCENARIOS IN THE AIR

“All the scenarios are up in the air, but I think if you go by 25-basis-point increments thinking that you are going to reach neutral soon enough, I don’t believe it’s going to make it, especially if you think the U.S. is going to keep cutting by fifty,” he said. 

Lagging any further large rate cuts from the Fed could drive up Canada's dollar and put more pressure on the economy, he said. Canada sells three-quarters of its exports to the U.S., meaning a higher dollar can squeeze exports of manufactured and consumer goods. 

The case for cutting half a point in Canada also rests on the idea officials could later choose to downshift as they approach neutral. "They could probably go twice with 50, October, December, and then January thinking we’re 3.25%-- we could go back to the quarter-point drop, trying to figure out where the Canadian economy might go from there,” Dupuis said. (See MNI INTERVIEW: BOC Needs Faster Cuts, Labour Congress Says)

Officials expect inflation to settle around the 2% target sometime in 2025, cautioning there will likely be some bumps along the way, including weakness late this year related to a base effect around gasoline prices. The latest CPI report showed inflation right at 2% and officials haven't spelled out what exactly an undershoot means to them. Dupuis said “anything below one would be something they need to react to, or anything getting too close to one for an extended period of time.”

Job market weakness is another question for officials as they consider the pace of easing, he said. Record immigration has already masked weakness in per capita output and has led a rise in unemployment to the highest since 2017 outside of the pandemic. “They clearly have this in mind” Dupuis said of labor market weakness.