MNI INTERVIEW: BOC Has Scope To Cut To Neutral- BDC's Cleroux

MNI (OTTAWA) - Moderating inflation and weaker economic growth give the Bank of Canada room to lower interest rates at each of its three remaining meetings this year and ultimately back to a neutral setting, while moving too slow risks a recession, the federal small business bank's chief economist told MNI.

Retailers and builders are already facing some noticeable job losses and weak demand, Pierre Cleroux of BDC said, and while that’s part of the Bank’s plan to return inflation to target, tight policy now needs to be relaxed. Firms need incentives to boost investment as the economy softens and the prospect of U.S. trade protectionism following its elections adds another layer of uncertainty to what so far has been a strong year for manufacturing and exports, he said.

“They will accelerate the path of interest rates because inflation is under control but also because the economy is slowing down,” said Cleroux, who has also worked as the Quebec government's assistant deputy minister for economic development and trade.

The Bank of Canada lowered borrowing costs by a quarter point at its June and July meetings and economists see another reduction at the Sept. 4 decision. Governor Tiff Macklem has said more cuts are justified if inflation keeps moving back to 2% and this month's CPI report showed inflation slowed to 2.5% from 2.7%, the lowest in three years.

'SELF-MADE' SLOWDOWN

Outside of housing most products are already “in line” with the Bank’s 2% inflation target, he said. While it's possible the Bank pauses at one of its three meetings left this year according to Cleroux, he said more relief will be needed in 2025 to recover from this year's weakness. Over time borrowing costs will come down from today's 4.5% to a neutral rate of around 2.5% to 2.75%, he said.

“I hear that a lot from our clients, it feels like we’re in recession so we must be in a recession," he said. 

The Bank's policy rate before the cuts was 5%, the highest since 2001, and the prior tightening from near zero also was the most aggressive in decades as inflation surged to 8%.

BDC's quarterly polling from July showed that even after reductions began investment sentiment remained weak and Cleroux also pointed to two months where hiring stalled as evidence of a slowdown. That contrasts with the Bank's view growth would pick up in the third quarter. 

The good news is that this slowdown is “self-made” and unlike in 2008 and Covid the weakness can be undone domestically by changing regular policy settings, he said. “We should see that (rebound) in 2025 but what we see now is the recovery is going to take more time than we thought.”