MNI INTERVIEW: Dodge Sees BOC Cutting To Low End Of Neutral

The Bank of Canada needs to cut the policy interest rate towards 2% with tariff uncertainty stunting growth, former Governor David Dodge told MNI, while going further risks hot inflation and market instability.

"It probably may have to sit kind of at the low end of that neutral band for a period of time," Dodge said of the overnight rate. The Governor from 2001-2008 estimated the neutral range between 2% and 3% to 3.5%, while current officials put it at 2.25% to 3.25%.

The Bank's policy rate was held at 2.75% last month after seven prior reductions. Dodge agreed with current Governor Tiff Macklem's view that volatile U.S. trade policies mean less scope to deliver a precise economic forecast or interest-rate guidance, and there are competing risks on growth and inflation.

Investor views on rates have diverged in recent weeks, with a few seeing the Bank on hold in the near term and others calling for rates below 2% this year. The median view is for two or three more reductions in 2025. (See: MNI INTERVIEW: Tariff Uncertainty Means Lower BOC Rates- Ragan)

SITTING ON THEIR HANDS

Macklem will be "reluctant to go further" and into stimulative territory because of risks around inflation expectations, Dodge said. Core prices are gaining at about 3% because of elevated housing costs, while headline CPI has settled around the Bank's 2% target. That headline slowdown has yet to capture much of the looming price boost from tariffs.

Risks to growth and inflation “are both going to have to be dealt with, that’s the problem,” Dodge said. 

Tariff threats alone are enough to subdue or perhaps shrink Canada’s growth in the near term, according to Dodge, who added that Trump’s deals with the UK and China do little to clarify Canada's outlook. “Just the uncertainty itself is a constraint on short term growth, because people sit on their hands,” he said.

Several times in the interview Dodge said the risk of a financial disruption has climbed recently, another reason for modest rate cuts. “You have to recognize the limits of monetary policy," he said. "One of the lessons that we've had is that going way beyond that and going to very low rates and creating a lot of liquidity aimed at growth, it doesn't work.” Canada's housing market has become one of the world's most stretched through a previous era of low-for-long rates. 

Dodge has experience with ruptures like 9-11 and the 2008 financial crisis, and helped recruit Mark Carney to the BOC. Carney is now Canada's prime minister and swore in a new cabinet this week. Dodge said Carney will also struggle with slow growth and tariffs, making it impossible to deliver all his promises.

GROSS DEBT LOOKS ORDINARY 

“They've got these objectives which you cannot simultaneously realize them, and so you have to choose,” Dodge said. Pledges include tax cuts, making Canada an energy superpower, balancing the operating budget, boosting defense spending to 2% of GDP and doubling the pace of homebuilding.

On top of that the former governor said Carney is facing a near-term rise in unemployment, already the highest since 2017 excluding the pandemic. That will squeeze federal finances, and Dodge said officials must be candid with voters about sacrifices like slower spending on health. 

Dodge, who also served as the finance department’s top official, cast doubt on the political message Canada's finances are superior to other advanced economies. He's also skeptical about Carney's promise to balance the operating budget and run overall deficits to fund investments.

“How much fiscal room does the government have? Well, on the net basis, it certainly has some room. The problem is that it's gross debt that really matters. When financial problems arise, and our gross debt, it looks about like, you know the others," Dodge said, comparing Canada to other major economies.