No set path for rate hike, Bank of Canada warns

Governor aims to normalize historically low interest rates without harming recovery

OTTAWA— In his first speech since his second rate increase, Bank of Canada Governor Stephen Poloz cautioned there is no “predetermined path for interest rates” and said the central bank will proceed “cautiously” as it assesses the performance of the economy.

Although Canada has made “significant progress” in adjusting to the oil shock, Poloz highlighted the heightened level of uncertainty about “how the economy is evolving” toward full capacity, particularly around the outlook for inflation, which has been sluggish.

That means the central bank is uncertain about “how far there is left to go” before it reaches a state of full capacity with inflation at 2 per cent — what Poloz defines as “home.”

It’s a situation preventing the bank from being “mechanical in our approach” to monetary policy, he said Wednesday in St. John’s, NL.

“The appropriate path for interest rates in this situation is very difficult to know, because there are a number of unknowns around the inflation outlook,” Poloz said, according to the prepared text of his speech. “We will not be mechanical in our approach to monetary policy.”

Poloz is seeking to balance bringing interest rates back to more normal levels amid the strongest growth spurt in more than a decade, while at the same time not harming the fledgling recovery.

Wednesday’s speech — like one given by deputy governor Tim Lane last week — may be interpreted as a further attempt by policy-makers to pare expectations that the central bank is moving headlong into more rate increases, after hiking borrowing costs twice since July.

Swaps trading suggests investors are still pricing in as many as three more rate increases by the end of next year.

Poloz said that “at a minimum,” it’s become clear that the two rate cuts he made in 2015, which are now fully

“We will not be mechanical in our approach to monetary policy.” STEPHEN POLOZ BANK OF CANADA GOVERNOR

reversed, are no longer needed.

The Canadian dollar — which has appreciated about 10 per cent since early May — fell as much as 0.7 per cent on the comments to $1.2434 per U.S. dollar. The currency is down 2 per cent since Sept. 13.

“The majority of the speech confirms our assumptions that tightening from the Bank of Canada will be a gradual affair from here,” Nick Exarhos, an economist with the Canadian Imperial Bank of Commerce, said in a note to investors.

Although Lane placed an emphasis on the dollar, Poloz’s speech underscored the challenges the central bank has been having in forecasting inflation, which has been consistently below the central bank’s 2-percent target.

Other puzzles in the data include: full capacity being a moving target, the impacts of technology on inflation, wage growth that is slower than what would be expected at this stage, how elevated household debt affects the impact of rate increases on the economy, and inflation.

Poloz did have things to say about recent market movements, highlighting that policy-makers “watch closely” movements of long-term interest rates and the Canadian dollar. He said currency changes could have an impact on the inflation outlook.

He also said interest rates in Canada would need to be even lower without fiscal stimulus.