Bank of Canada Governor Tiff Macklem takes part in a press conference in Ottawa on March 12.Blair Gable/Reuters
The Bank of Canada cut its key interest rate for the seventh consecutive time but warned it would “proceed carefully” with future monetary policy decisions, as the country navigates a trade war with the United States that could deal the Canadian economy a one-two punch of recession and rising inflation.
The central bank’s governing council on Wednesday lowered the benchmark policy rate by a quarter-percentage point to 2.75 per cent, as widely anticipated by analysts.
Bank of Canada Governor Tiff Macklem said Canadians should brace for an impending downturn, as U.S. President Donald Trump’s aggressive and erratic trade policies rattle consumer and business confidence and upend supply chains.
At the same time, Mr. Macklem stressed that the central bank can only play a secondary role responding to the crisis, as trade wars increase consumer prices and the bank can’t take its eye off inflation. That’s a clear signal the central bank doesn’t intend to cut interest rates as fast or as deeply as it has in past emergencies.
“A tariff war will weaken economic activity in Canada, but it will also boost prices and inflation, and what we can’t let happen is we can’t let a tariff problem become an inflation problem,” he said in an interview with The Globe and Mail after the rate announcement.
“The interest-rate response is not going to look like COVID, it’s not going to look like 2008. We signalled today that we’re going to have to proceed carefully with any further changes in interest rates.”
Live updates: Bank of Canada cuts interest rate by quarter-point to 2.75%
Canada’s trade-dependent economy is facing a major shock with Mr. Trump threatening decades of North American economic integration. Since returning to the White House in January, he has imposed tariffs on all Canadian exports, partially lifted them, then threatened more.
On Wednesday, the President imposed 25-per-cent tariffs on steel and aluminum imports – a move that will have an outsized impact on Canada, which is America’s largest foreign supplier of both metals. Ottawa responded Wednesday by announcing dollar-for-dollar tariffs against $29.8-billion worth of U.S. goods, which are set to come into effect on Thursday.
Tariffs and the threat of them are weighing on Canadians, according to a survey conducted by the Bank of Canada last month and published Wednesday. Consumers are becoming worried about job security and paring back spending plans, while businesses are implementing hiring freezes and putting investment plans on hold.
“The recent shift in consumer and business intentions is expected to translate into a marked slowing in domestic demand in the first quarter of this year,” Mr. Macklem said in a press conference after the rate announcement. “If household and business spending intentions remain restrained, the combination of weaker exports and soft domestic demand would weigh further on economic activity in the second quarter.”
Mr. Macklem avoided using the term “recession,” but has previously indicated that a prolonged trade war with the U.S., where 25-per-cent tariffs are imposed and Canada retaliates, could wipe out economic growth over the next two years. The bank did not publish a new forecast on Wednesday.
The central bank is in a tricky spot. A trade war is what economists call a stagflation shock: Tariffs slow down economic activity, but they also raise consumer prices, as retaliatory levies and currency depreciation raise the cost of imported goods. That forces an inflation-targeting central bank, such as the Bank of Canada, to choose between easing monetary policy to support the economy and tightening it to head off inflation.
Mr. Macklem says the economy won't recover from the trade war the same way it did from the COVID-19 pandemic, and there’s only so much monetary policy can do in response.
The Canadian Press
Traders trimmed their bets on another rate cut in April after the announcement. Interest-rate swap markets put the odds of a quarter-point cut on April 16 at a coin toss, according to LSEG data. Markets are now pricing in only two more cuts this year.
“Looking ahead, future decisions will be largely guided by the direction of travel in the trade war, although we suspect the Bank was headed a bit lower in any event,” Bank of Montreal chief economist Douglas Porter wrote in a note to clients, saying he expects three more cuts this year.
He added: “Clearly, that’s dependent on how tariffs evolve, while the eventual fiscal response could have an impact as well. Our core assumption is that Canada will be facing some serious tariffs for an extended period of time and that the growth dampening aspects of the trade war will ultimately outweigh the upside inflationary impact, keeping the Bank in easing mode.”
Inflation has been fairly low and stable since last summer, hovering around the bank’s 2-per-cent target, and coming in at 1.9 per cent in January. However, that number has been flattered by the federal GST holiday, in place from mid-December to mid-February, and some core inflation measures have been ticking higher. The bank expects inflation to increase to around 2.5 per cent in March, as the impact of the GST tax break fades.
Looking ahead, there will likely be a jump in inflation in the coming months owing to several overlapping factors. Ottawa’s retaliatory tariffs on U.S. goods directly raise their price, while a weaker foreign exchange rate – the loonie is worth around 69.5 US cents, down from around 74 US cents in September – will make imported goods more expensive for Canadian buyers.
“The other thing we’re hearing from businesses is that the uncertainty itself is adding costs,” Mr. Macklem said in the press conference. “Businesses are looking for new suppliers. They’re holding extra inventory. They’re looking for new markets for their goods. That all entails new costs … and ultimately those will get passed through to the prices that Canadians face.”
The bank’s recent survey found short-term consumer inflation expectations have risen, while businesses are reporting a jump in costs. Around half of the companies that responded said they plan to increase prices if tariffs drive up input costs. And of those, three-quarters expect to pass along more than half of the cost increase to customers.
On a positive note, the Canadian economy is entering the trade war with the U.S. on a better-than-expected footing. Gross domestic product grew at an annualized rate of 2.6 per cent in the fourth quarter of last year, well ahead of Bay Street and Bank of Canada estimates. If it wasn’t for U.S. tariffs, many economists believe the central bank would have paused rate cuts by now.
Mr. Macklem will soon have a new partner in addressing the trade crisis: his former boss Mark Carney, who took over as Liberal Party Leader last weekend and is expected to become prime minister in the coming days.
Mr. Macklem stuck to a neutral script when asked about Mr. Carney, the former governor of the Bank of Canada and the Bank of England, during the press conference. He said he couldn’t comment on Mr. Carney or any other politician because of the principle of central bank independence from politics.
In his Globe interview, Mr. Macklem also played down whether a former central bank governor – an explicitly non-partisan role – going on to the highest political office in the land puts him in an awkward position.
“I’m going to bring that back to me. If anybody’s concerned that I have political ambitions, they need not worry. I have no political ambitions. There is nowhere I’d rather be than right here, Governor of the Bank of Canada. I think you can see I’ve got my hands more than full,” he said.