Poloz Says Canada’s Economy Entered ‘Sweet Part’ of Business CycleBy and
Governor puzzled by claims that inflation ‘missing in action’
Bank of Canada is in intense data-dependent mode: Poloz
Canada’s economy may be entering into a “sweet part” of the business cycle where it can run at a faster pace without triggering inflation pressure, Bank of Canada Governor Stephen Poloz said.
Poloz, speaking to reporters Saturday in Washington, said there are signs investment could become a more important part of the growth story. Such spending not only fuels the expansion, but at the same time grows the economy’s production capacity and potentially helps to mitigate inflation, he said.
“It’s one of the things I’m often puzzled about, is how many folks are writing about how inflation’s been missing in action and all that,” Poloz said, adding any increase in potential growth could be temporary. “Well, that’s exactly what happens at this stage of the cycle. It’s pushed out further and that’s a good thing.”
While the Bank of Canada has forged ahead with two interest rate increases since July, policy makers have more recently conveyed a message of caution that’s prompted investors to pare expectations for how quickly they will continue hiking. The bank’s next rate decision is scheduled for Oct. 25, with markets reflecting about a one-third chance of another increase, data compiled by Bloomberg show.
Poloz has cited “heightened uncertainty” about the economic outlook and inflation, and, like the Federal Reserve, the Bank of Canada has tightening with little sign of inflationary pressure, a vote of confidence in a framework that assumes a predictable relationship between inflation and the output gap.
In Washington, Poloz reiterated his confidence in these models and said it may be faster-than-expected capacity growth -- which gives the economy more room to expand -- that explains why analysts are overestimating inflation.
“Inflation models for sure are not broken. They’ve always done a good job and continue to do a good job,” Poloz said. “You always overestimate inflation at this stage of the cycle. It’s good because it’s the sweet part of the cycle, where you’re actually creating new capacity which is permanent. It’s a very positive thing.”
The nation has seen an uptick in investment and hiring intentions which is “positive for productivity,” Poloz said. Growth is allowing many Canadians to find work in their fields, opening up other positions and boosting productivity, and wages don’t always “move much” during this stage of the economic cycle, the governor said.
Those developments, over time, will “push out” what Poloz called the intersection between full capacity and his target for 2 percent inflation.
Growth has been driven in part by the fiscal policy of Prime Minister Justin Trudeau’s government, which is running budget deficits to finance, in part, expanded child benefit payments aimed at low-income families.
The Canada Child Benefit has had a “pretty significant” impact on the economy, Poloz said, adding it could be one of the reasons the country has seen rising labor-force participation. “What it did is put a floor under some folks,” Poloz said, adding it may have allowed formerly stay-at-home parents to afford childcare or a second car and therefore more easily re-enter the workforce.
Poloz characterized this year’s rate increases as having offset the two cuts made in 2015 to buffer the economy when global oil prices were falling sharply. The adjustment to the oil-price shock is now “behind us” in Canada, he said, when asked about rates.
From here on, the Bank of Canada will be in “intense data-dependent mode,” said Poloz, who objected to the characterization by one reporter of his monetary policy as being on a “tightening” path.
“Well, I don’t think we’ve ever said anything like that. Have we?" he said. “We’ve taken those two cuts off the table and what we’ve said is we’re in the intense data-dependent mode,” Poloz said. “We’ve gone to some lengths in my speech just a couple weeks ago to explain what data dependence actually means.”
Canadian growth will moderate in the second half of the year, Poloz said, and will eventually slow down to its potential growth rate in line with long-term fundamentals such as demographics.
There’s a sense of “comfort” that the global economy continues to improve, he said, while adding Canada, which is leading the Group of Seven in growth, hasn’t seen all citizens benefit equally.
“We’re still an economy with, you know, with our head in the oven and our feet in the freezer,” he said.
For those people who haven’t benefited, it “doesn’t resonate with them if you say everything’s on track. And it’s almost always that way with Canada and it’s almost always that way with the world.”
The policy maker spoke on the sidelines of International Monetary Fund meetings in Washington while a fourth round of talks toward an overhauled North American Free Trade Agreement continued at a nearby hotel.
It’s difficult to analyze the impact on the Canadian economy if the U.S. were to leave Nafta, as President Donald Trump has regularly threatened, Poloz said. The impacts could vary substantially by sector, he said, while rippling through the whole economy.
“We’ve got to wait and see what shock we’re presented with,” he said. “Trade is a really important driver for our economy.” The negotiations, along with this year’s interest-rate hikes, remain “sources of angst” for some Canadians, Poloz said.
On housing, Poloz said an “element of speculation” in the popular Toronto and Vancouver housing markets looks like it’s dissipated, though demand remains strong in both cities and supply is probably not growing fast enough to keep up.
“What we do know is the laws of demand and supply have not been repealed,” he said. “The ingredients remain in place, so you have to continue to watch that financial stability risk, as we will.”