Bank of Canada says rates may be at peak, excess demand now gone

By Steve Scherer and David Ljunggren

OTTAWA (Reuters) -Bank of Canada Governor Tiff Macklem said on Wednesday that interest rates may be at their peak, given that excess demand has vanished and weak growth is expected to persist for many months.

The Bank of Canada (BoC), seeking to control soaring inflation, hiked rates 10 times between March of last year and July 2023, pushing rates up to a 22-year high of 5.00%. The inflation rate, which spiked to more than 8% last year, eased to 3.1% in October, but is still above the bank's 2% target.

"This tightening of monetary policy is working, and interest rates may now be restrictive enough to get us back to price stability," Macklem told the Saint John Region Chamber of Commerce in the Atlantic province of New Brunswick.

"We expect the economy to remain weak for the next few quarters," he added. "The excess demand in the economy that made it too easy to raise prices is now gone."

Macklem reiterated that the central bank was prepared to raise rates again if needed.

Analysts and money markets expect that the bank's next move will be to cut rates by the middle of next year.

Responding to questions after his speech, Macklem said the BoC can begin lowering interest rates when inflation is on a clear path to the 2% target, but "right now, it is not time to start thinking about cutting interest rates."

When the BoC's policy-setting governing council last met and announced on Oct. 25 that rates would remain on hold, some members thought another increase in borrowing costs would be needed, according to a summary of their deliberations.

"Our view is that further economic weakness will be seen over the remainder of this year and early in 2024," said Royce Mendes, head of macro strategy at Desjardins Group, after the speech. "That will be enough to prompt rate cuts in the second quarter of 2024."

Macklem spoke a day after the government released its Fall Economic Statement (FES), which included new spending measures aimed at providing more affordable housing. It said deficit spending would be much higher than previously forecast in coming years, with debt coming down more slowly.

In recent months, Macklem has said monetary and fiscal policy should be rowing in the same direction to bring down inflation.

The government "is not adding new or additional inflationary pressures over the next couple of years," Macklem told reporters. He said it was "helpful" that the government added new "fiscal guardrails."

In the FES, the government said the federal debt-to-GDP ratio would be put on a downward path from 2025/26, deficits would be limited to 1% of GDP from 2026/27, and the deficit would not be allowed to exceed C$40.1 billion.

In his speech on Wednesday, Macklem defended the need for restrictive monetary policy, while acknowledging the impact.

"Higher interest rates are squeezing many Canadians, but these rates are relieving price pressures," he said. "To return to low inflation and stable growth in the years ahead, we need these higher interest rates and slow growth in the short term."

On Nov. 9, the bank said the era of super-low interest rates was likely over and warned businesses and households to plan for higher borrowing costs than they have been used to in recent years. Some 60% of mortgage holders have yet to renew their home loans at higher rates, the BoC says.

(Reporting by Steve Scherer and David Ljunggren; Editing by Christina Fincher and Leslie Adler)