MNI INTERVIEW:BOC to End Active QE Before Rate Hike-Ex-Adviser

The Bank of Canada will finish scaling back asset purchases before raising interest rates, former special adviser Thorsten Koeppl told MNI, as it tries to engineer an orderly QE exit amid concerns inflation could push it to tighten faster.

Governor Tiff Macklem is already approaching the limit of how far he can push QE, with the central bank moving towards owning 50% of federal government bonds, said Koeppl, who now teaches at Queen's University in Ontario and has also done research for the ECB and New York Fed.

"There are limits to the bond-buying program, and it has to stop from that perspective," he said. "As things improve I think they will adjust their stance, and if things improve more quickly, the first thing that they are going to do is stop the bond-buying program, I think that's clear."

That phase could still include what the BOC has described as a period of reinvesting maturing assets to stabilize the size of the balance sheet, Koeppl said. The Bank's main goal will be less about any particular size of its balance sheet than making sure not to shrink it too quickly he said, and winding down purchases should clear the way to raise rates.

"There is a clear playbook there, and I would be shocked if the Bank of Canada does not follow the playbook," he said.

The BOC scaled back last year's original pace of CAD5 billion a week of asset purchases to CAD2 billion earlier this month. Some investors see one more move to CAD1 billion towards the end of the year that would stabilize the balance sheet, though a few see purchases halted outright around that time. Macklem has also said conditions to raise the record low 0.25% lending rate could be in place in the second half of next year -- an economy back at full output and inflation stable at the 2% target.

"The smoking gun for the Bank will be how persistent inflation is," Koeppl said. "There are some transitory factors. However I think the Bank of Canada may be put to the test throughout 2021."

"If these inflation expectations are going to go up" given the BOC's single mandate, "they would have no choice, I think, to at least try to get to a tougher stance," he said.

Macklem himself hasn't spelled out any sequence between QE and rate increases, when asked about that earlier this month at a press conference by MNI. (See: MNI STATE OF PLAY: BOC Set to Limit QE to Steady Balance Sheet.)