Signs that global inflation pressures are easing are not enough to curb future interest rate hikes as the national economy is still running too hot, the Bank of Canada’s top policymaker says.
Tiff Macklem said in a speech Thursday to the Halifax Chamber of Commerce that even as inflationary pressures beyond Canada’s border such as high global shipping rates and supply chain concerns subside, domestic sources of price growth such as demand for services remain too hot.
The annual rate of inflation clocked in at 7.0 per cent in August as gasoline costs continued to fall, per Statistics Canada, though prices on food continued to surge, hitting a 41-year high.
Macklem also said surging demand for travel and recreation after the end of COVID-19 restrictions fuelled inflation.
Those forces have helped keep the Bank of Canada’s core metrics of inflation hot even as the headline figure from Statistics Canada has slowed in two consecutive months.
“When combined with still-elevated near-term inflation expectations, the clear implication is that further interest rate increases are warranted. Simply put, there is more to be done,” Macklem said Thursday.
The Bank of Canada, as an institution, and Macklem specifically have been targets in recent months for federal Conservative leader Pierre Poilievre, who charges the central bank with enabling the Liberal government agenda and contributing to rampant inflation.
During his leadership campaign, Poilievre said he would fire Macklem from his post if he became prime minister, a proposal that has received backlash in turn as not respecting the independence of the institution.
Global National anchor Dawna Friesen asked Macklem in an interview following his speech on Thursday about his response to the Conservative leader.
The governor told Friesen that the central bank’s independence is the reason it’s able to “deliver price stability” and control inflation — a task he was resolute in his comments Thursday the Bank of Canada would be able to accomplish.
“I can tell you, I go to work every day, that’s my focus. Inflation is hurting Canadians. The best way to protect Canadians from high inflation is to eliminate it.”
How high will interest rates go?
The Bank of Canada’s policy rate currently sits at 3.25 per cent, following an increase of 0.75 percentage points on Sept. 7.
The central bank’s benchmark rate has jumped up three percentage points across five consecutive hikes since March, which Macklem acknowledged Thursday is “one of the steepest and fastest tightening cycles we’ve ever conducted.”
CIBC chief economist Avery Shenfeld said in a note to clients Thursday that Macklem’s speech “had a fairly hawkish tilt,” implying a more aggressive stance on monetary policy.
The central bank had signalled back in September that more interest rate hikes would be needed to tame inflation. But Shenfeld said Macklem’s remarks meant the next rate decision on Oct. 26 was “still a lock” for an increase of half a percentage point with a pause afterwards unlikely.
Warren Lovely and Taylor Schleich of National Bank Financial (NBF) said in a note that they also expect a move greater than the standard 25-basis-point step later this month, with the policy rate ending the year “at no less than” four per cent.
The NBF economists said that Macklem’s tone was reminiscent of recent speeches from U.S. Federal Reserve chair Jerome Powell, who has promised more “pain” to come in efforts to tame inflation south of the border.
Indeed, Macklem was adamant that as the labour market remains tight and wages are beginning to grow, Canada’s economic growth must slow to give supply time to catch up with pent-up consumer demand.
“This will help relieve price pressures here in Canada,” he said.
Weak Canadian dollar fuelling inflation
Asked whether he still believed Canada will skirt a recession, Macklem maintained it is possible to avoid the economic downturn but conceded there are many factors that could complicate those efforts.
Global supply chain issues persist with pandemic-related lockdowns in China, war continues in Europe and inflation could prove “sticky” at home, he cited as ongoing issues the bank is monitoring.
“There is a path to a soft landing but it is a narrow path and there are risks,” he said.
“How high interest rates need to go … really depends on how inflation and the economy responds.”
One such inflationary pressure is the relative weakness of the Canadian dollar to the U.S. greenback.
Usually when a country’s central bank raises interest rates, the national currency gets a boost as investors are incentivized to hold that denomination.
But the Canadian loonie — like most currencies around the world, in fact — has faltered as of late due to the overwhelming strength of the U.S. dollar. The Canadian dollar is at a more-than two-year low of 73 cents to the U.S. dollar as of Thursday.
That’s driving up the prices of imports from the U.S. and weakening the purchase power of Canadians who travel south for the winter, contributing to inflation.
Macklem said Thursday that the lagging loonie means “there’s going to be more to do on interest rates.”
Weighing the wage question
In his speech Thursday, Macklem continued to try to set expectations for inflation in the near- and long-term, pledging the central bank would fulfill its mandate to bring price growth back to its two-per-cent target.
Speaking from Halifax, he alluded to the rebuilding efforts underway following the devastation from storm Fiona as providing resolve for the Bank of Canada’s own campaign.
“Atlantic Canadians will rebuild after this storm as they always have. And the Bank of Canada will control inflation as it has for the last 30 years. We are resolute in our commitment to restore price stability for all Canadians,” he said.
Inflation expectations are a critical part of the fight against inflation itself. When consumer and employer expectations for inflation become “unanchored,” they begin demanding higher wages to offset the impact, which then feeds back into prices themselves as businesses pass on costs to the end-user.
The “wage-price spiral” is a worst-case scenario for the Bank of Canada, Macklem explained, and would require much higher interest rates to tame.
“Once you get into a wage-price spiral, it’s too late,” he said.
But as Macklem has preached this to business leaders and warned them against raising wages too high amid the inflation fight, some have accused the central bank governor of overstepping his bounds and disrupting collective bargaining.
When the governor spoke to the Canadian Federation of Independent Business (CFIB) in July, he warned attendees not to bake today’s inflation levels into long-term wage contracts.
The Canadian Labour Congress has taken issue with this tact — president Bea Bruske said in a statement last month that she’s “deeply concerned about the Bank’s preoccupation with encouraging companies to push down wages, at a time when so many workers struggle to make ends meet.”
Macklem was asked about his wage messaging on Thursday. He maintained that he is leaving decisions about payroll up to businesses, and to workers to decide what wages they are willing to accept.
But he said his guidance has been to not bake high levels of inflation into long-term discussions about salary.
“What I’ve been telling workers, what I’ve been telling businesses, is as you take your decisions, don’t count on inflation staying where it is,” he said.
“Inflation is coming down, and workers and businesses can count on that.”
— with files from Reuters
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