Despite the necessary rate cut by the Bank of Canada, it cannot counterbalance the negative impact of anti-growth fiscal policy.

Commentary

The Bank of Canada’s quarter-point cut in its policy rate, from 5 percent to 4.75 percent, likely heralds the first of a series of cuts, not just in Canada but throughout the world’s wealthy nations. Canada, economists say, is the first G7 country to reduce its benchmark rate, and the others will follow.

Although the June 5 cut was about the best the bank could do for now, risks abound.

The Bank of Canada said annual inflation seems headed to its target of 2 percent, with the latest figure at 2.7 percent annualized after peaking at over 8 percent. And the central bank said the economy has resumed growing after a lull—the latest-quarter GDP growth was 1.7 percent annualized. That’s weak by historic standards, but it does look like a potentially inflationary boom. And on a per capita basis, due to population increases, growth was slower.

The fact remains, though, that the Canadian economy is struggling, and a quarter-point cut means little by itself. An ease in monetary policy may be welcome given the sorry state of the economy, but any positive effect is dwarfed by an anti-growth and anti-investment fiscal policy. The federal government’s last budget and its increase in capital gains taxes, along with even more government overreach, hang like an albatross around the neck of ordinary Canadians.

The Bank of Canada pointed out that consumption grew at 3 percent, while core inflation over the last three months was under 2 percent annualized. Although they did not use the term, the bank believes we are in a “Goldilocks” economy—not too hot and not too cold.

In reality, we have gone from refrigerator-cold to room temperature at best. And no one really enjoys room-temperature porridge. At current interest rates and with inflation headed toward 2 percent, the gap between rates and inflationary expectations are high.

The economy did not need an overly restrictive monetary policy, and most analysts saw the bank’s move as prudent. A 0.5 percent cut would have been too much, spooking the markets into believing that bad news was coming.

The Canadian economy needs more rate cuts, but cutting too quickly would be imprudent, especially if it is out of line with the United States and other nations. Inflation could easily re-accelerate and, frankly, even 2.7 percent is too high. Furthermore, the Canadian dollar could decline precipitously. Given that Canada depends on trade and we import much of our food, rising prices would hit consumers despite relatively high interest rates.

The bank tried to curtail expectations by indicating that it’s tackling policy one meeting at a time. However, we are clearly headed toward looser monetary policy.

This is welcome news for Canadian mortgage borrowers. People who took out lower-interest mortgages before the inflation spike will see significantly higher renewal rates in the next couple of years. They will renew, barring an unforeseen economic catastrophe, at higher rates, but below current levels.

Despite expected cuts, the forecast by some analysts and central bankers that rates will stay higher for longer seems prescient. Also, there is only so much the Bank of Canada can cut unless the Federal Reserve cuts as well, as it’s expected to do.

Even as a round of cuts is coming, the era of artificially low rates is over. The Bank of Canada cannot repair the Canadian economy by itself, especially when the federal government is pulling in the other direction. Canada has a lot of big economic problems, and current monetary policy isn’t one of them.