Bank of Canada Governor Tiff Macklem in Ottawa on Dec. 11.Dave Chan/The Globe and Mail
Bank of Canada Governor Tiff Macklem hasn’t declared “mission accomplished” – but he’s come awfully close. Inflation is back on target. And after a fifth consecutive interest-rate cut this week, the bank’s policy rate is near a Goldilocks level that neither juices nor restrains the economy. “It has been a tumultuous four-and-a-half years,” Mr. Macklem told The Globe and Mail, shortly after Wednesday’s rate decision. “I’m very pleased we’ve got inflation back to 2 per cent.” Yet, even as prices have stopped galloping higher, Canadians continue to be squeezed by the high cost of living. And there are major new risks on the horizon, including the possibility of a trade war with the United States. The Globe sat down with Mr. Macklem to talk about the next phase of monetary policy, Donald Trump’s tariff threats and how the central bank is navigating an increasingly uncertain world.
Mark Rendell: 2024 was the year inflation got back to 2 per cent. Is the inflation fight over?
Tiff Macklem: I think you can see it in the last two decisions: There is a shift in focus. For the last two years, we’ve been very much focused on getting inflation down to 2 per cent. We’ve got it down to 2 per cent. It’s been down around 2 per cent since the summer. And with that, we took two bigger steps because we needed restrictive monetary policy to get inflation down. We’ve got it down. It was time to take the restrictiveness of monetary policy out.
Rendell: There’s still this broad sense we’re in a cost-of-living crisis, even if inflation is no longer growing as rapidly. What needs to happen to address that?
Macklem: I think you’re right. The recent experience with high inflation has been a reminder just how much people hate inflation. And even as inflation has come back down to 2 per cent, prices for many goods, and many of the things that people buy regularly, like food, are considerably higher, and they’re reminded of that every week. It feels unfair. It feels like they’re ripped off. More broadly, it undermines trust in the central bank to control inflation. It undermines trust that our market-based economy works, and that it’s working for everybody.
We saw our own credibility take a hit when inflation went way up. What we’ve seen, though, more recently, is by being clear that we were going get inflation back to 2 per cent, and then delivering on that, that is restoring trust. We survey households and businesses on where they expect inflation to be, and in the last months it has come down quite a bit. And we do our own surveys of Canadians, and what we see is that trust in the Bank of Canada has come back. We’re not seeing permanent scarring. All I can say is, we do not take the public’s trust for granted.
Rendell: After today’s cut, the policy rate is back at the top end of the bank’s estimate of the “neutral” range. How does monetary policy decision making change when you’re back in a neutral range?
Macklem: The neutral rate is not something we can observe directly. We don’t know exactly what it is, and to be frank, different members of the governing council have slightly different best estimates. We have a range which we periodically review. Right now it’s 2.25 per cent to 3.25 per cent. So, yes, at 3.25 we’re at the top end of that neutral zone.
Keep in mind that the neutral interest rate is the interest rate that would prevail if the output gap is closed, inflation is at target and there are no shocks pushing the economy around. Of course, there’s always going to be new shocks.
We’ve brought interest rates down substantially since June, we signalled today that we will be considering further reductions. But our mindset, our thinking, is a more gradual approach going forward. Now that we’ve got inflation back to 2 per cent, now that interest rates are at the top end of the neutral zone, monetary policy is in a better position to be able to respond, and there is some flexibility to use monetary policy to try to stabilize things.
Rendell: One of those potential shocks is this threat of tariffs from Donald Trump. How does a central bank respond to a tariff, which is both inflationary and negative for growth? Do you raise interest rates? Cut rates? Or look through it, because it’s a one-off price-level shock?
Mr. Macklem spoke to The Globe and Mail shortly after the rate decision on Dec. 11.Dave Chan/The Globe and Mail
Macklem: A big increase in tariffs on Canadian exports to the United States would almost certainly have a very big impact on the economy. It would also be very disruptive for the U.S. economy. It is a complicated shock for monetary policy, because it’s what we call a negative supply shock. It’s going to hurt GDP growth. And particularly if there are retaliatory tariffs, that means imports from the United States to Canada would become more expensive.
The economic consequences are going to depend a lot on exactly what the tariffs are on. Are some things exempted, other things not? How high are they? Does Canada retaliate? We have done some scenarios in the past, and we’re dusting those off. Certainly our hope is there are no new tariffs, but if there are concrete measures moving forward, yes, that is something we would take on board and we’ll have to work through what the response of monetary policy would be.
To some extent, it’s going to depend on the magnitude. A 25-per-cent across-the-board tariff is very big. And even if something is theoretically a level effect, if it’s a very big level effect, you can’t look through it.
Rendell: Tariffs are just one part of a changing world order, with more protectionist trade and industrial policy. What do interest rates and inflation look like in a more protectionist world?
Macklem: I think we could be heading into a world where we have more supply shocks, and supply shocks are more complicated for monetary policy because output and inflation are moving in the opposite direction. So there’s a trade-off.
Unfortunately, we got a lot of experience with negative supply shocks through COVID. And while I don’t think the future is going to look anything like that, I do think we’re probably not going back to the world we were in for the 25 years before COVID where we had more demand shocks, not as many supply shocks.
I think we have learned some lessons and we probably need a richer playbook than we had. You can’t just simply say, “Well, supply shock, we’re going to look through it.” I think you’ve got to look at the state of the economy when the supply shock hits. How big is this? How long do you think it’s going to last? Are there some more supply shocks that are on the horizon? So, we are investing in more detailed micro data to get a better view of supply chains, get a better understanding of things at a more granular level, so when something happens that disrupts supply in one place, we’ll have a better sense of how that’s going to feed through to other places.
Rendell: You’ve highlighted a lot of uncertainty around population, fiscal policy and tariffs. With so much uncertainty, how can you be confident you’re making the right decisions?
Macklem: I think you have to distinguish a little bit between these different types of uncertainties. There are a variety of policy changes that both federal and provincial governments have announced. In the case of the GST break, that will temporarily lower inflation. That’s a good example of a temporary shock. We need to be forward-looking with monetary policy. We’re going to look through that. There are changes in immigration: How many people you have in your economy, how many new consumers, how many workers. That’s a more fundamental change to the economy. These are announced policies. We’re analyzing them. They’re not really risks, they’re things that are going to happen.
Then there are the usual kind of risks we’re always dealing with. Wage growth has been elevated relative to productivity. If that persists, there could be more upward pressure on inflation than we’ve got built into our base-case outlook. On the downside, if the economy continues to grow below potential – the economy is going to be weaker than we expect – there’s going to be more downward pressure on inflation. Inflation may drift a little above or a little below, but we can adjust. We should be able to manage those risks.
And then there are risks that are more outside of the box. And certainly the potential for a large increase in tariffs on Canadian exports to the United States, that is really outside of the box. That is a true uncertainty.
Rendell: At what point do you start becoming worried about the weak Canadian dollar? And what do you mean when you say there’s a limit to the divergence between the Bank of Canada and the U.S. Federal Reserve?
Macklem: When I say there’s a limit, I don’t mean that there’s some bright line at which if that’s crossed, bad things are going to happen. There’s a certain elasticity. You can stretch the elastic a little bit, it’s really easy. And as you get further out, it’s going to get harder. If you look back historically, there have been periods with large divergences between Canada’s interest rate and the U.S. policy rate. We’re currently a little over one percentage point. It’s certainly been wider than that in the past.
We are starting to see a bit more of a depreciation of the Canadian dollar. How much of that is related to the interest-rate spread I think is an open question, because much of the depreciation of the Canadian dollar vis-à-vis the U.S. dollar really is more reflective of U.S. dollar strength. If you look at Canada’s exchange rate relative to other major currencies, it actually has not changed very much.
Interest rates in Canada are considerably below those in the United States, and there’s no doubt that is having some impact on the Canadian dollar. That’s actually partly how monetary policy works. Things imported into Canada are going to be a little more expensive. It also means our exports are a bit more competitive. Those are things that we need to factor in.
Rendell: I’ve got to ask you about the fiscal update [which will be released by the federal government on Monday]. I know you said during the news conference “I like guideposts. I’m not going to comment on it more.” But in general terms, last year you were talking about how fiscal policy at a provincial and federal level was rowing against what the Bank of Canada was trying to accomplish. Is that still the case?
Macklem: We are in a very different situation. For the last two years, we’ve been very focused on getting inflation down, and when we’re trying to get inflation down, big increases in government spending that are boosting economic activity risk working against getting inflation down. Now that we’ve got inflation back down to 2 per cent, I’m feeling less of a need to comment on fiscal policy. Unless fiscal policy is creating a big problem that’s pushing it away, I don’t think it’s something that the Governor of the Bank Canada needs to comment on.
Rendell: On housing, senior deputy governor Carolyn Rogers said you’ve seen an increase in housing market activity without an increase in home prices. Do you expect that to continue into next year? Or should we be worried about a jump in prices counteracting some interest rate relief?
Macklem: We know the housing sector is very interest-sensitive, and we are expecting to see some pickup in housing activity. And with that, we’ll probably see some increase in prices. We’re certainly not expecting things to get very overheated quickly. There is a risk, housing could come back faster than we expect. But we haven’t seen that so far.
Rendell: You’re four years into a seven-year term. What do you want to accomplish over the remainder of your term?
Macklem: It has been a tumultuous four-and-a-half years for Canadians, for the Canadian economy. I’m very pleased we’ve got inflation back to 2 per cent. Price stability is low, stable inflation. We’ve got it back to low. We need to deliver on stable.
Beyond that, I’d highlight two things. I put a lot of emphasis on accountability, transparency. We’ve made a number of changes: I introduced a summary of deliberations, we now have a news conference at every decision, we now have one external deputy governor and we’re in the process of recruiting for a second one. I think you can expect that we will be continuing to think about how we can enhance transparency and accountability. And I wish we were not potentially facing a more shock-prone world. But hope is not a strategy. We need to make sure we’re prepared for the future. And I think, having got inflation back down, there is more flexibility for monetary policy to play more of a stabilizing role. We’ve got to make sure we’ve got the tools and the playbook that best equip us to do that.
This interview has been edited for length and clarity.
Editor’s note: An earlier version of this story said Tiff Macklem’s term as governor is six years. In fact, his term is seven years.