MNI INTERVIEW: Tough BOC Talk May Avoid Rate Surge- Beaudry

The Bank of Canada's hawkish language allows it to keep interest rates stable in coming months if the Iran conflict’s impact on energy prices subsides, former deputy Paul Beaudry told MNI. 

Good communication around an intention of aggressive tightening if inflation becomes widespread will be effective in holding down price expectations, he said. That stance aligns with Governor Tiff Macklem's view that if oil prices fade the 2.25% policy rate is right but consecutive hikes may be needed if inflation broadens. 

"It's the right position to have right now, is you're holding but you're having this hawkish communication of saying we really have our eye on the ball, and we will do what it takes," Beaudry said in an interview. "Then you can just keep the policy rate, and if things aren't kind of getting too much out of hand, that should be enough."

Canada’s slowing inflation before the conflict and stable core inflation since then also puts Macklem in a better position than the Federal Reserve, Beaudry said. The change of Fed leadership with Kevin Warsh and Donald Trump’s pressure for lower rates adds another layer of complexity to the Fed’s job relative to the Bank's, Beaudry said.

VOLCKER NOT TAYLOR

"The first speech by this chairman is going to play a big role. I think he has to come out quite to reaffirm that the Fed is actually quite independent, is ready to raise if necessary," Beaudry said.  

Beaudry’s views are shaped by a recent IMF working Hidden PDF he wrote with the fund's Thomas Carter and Amartya Lahiri, a colleague of Beaudry's University of British Columbia where he teaches now. The trio found their economic model more geared to supply shocks shows decision-making more geared on judgement about the persistence of inflation is better than Taylor rules used in past decades when cycles were often demand-driven.  

This supply approach also makes achieving a soft landing more likely, Beaudry said, saying the experience of former Fed Chair Paul Volcker with big rate hikes is instructive. "Being that aggressive also communicates and helps expectations come down. It slows down the (inflation) process, such that by the end you might not have to do too much."

"It's actually quite costly to increase interest rates when the economy isn't doing that well. So you want to look through, and you kind of want to wait a bit," he said. "Deciding exactly what that pivot is is a difficult thing."

WE MIGHT BE OKAY

It's still the case that, with Middle East tensions still high, the BOC and its peers can get away with holding rates, Beaudry said. "The war might end next next week, but if it does end and things start coming back, I think again we might be okay without having a tightening cycle."

At the moment investors aren't in line with Beaudry's view, betting on perhaps one rate hike this year. Most economists predict a hold this year and some potential for a cut as U.S. tariffs slow exports and investment.

The recent climb in long-term government bond yields has little bearing on decisions to hike or hold because they have little influence on the current situation, Beaudry said. "Worry in the overall bond market makes sense. A lot of governments across the world are in big deficits. It's very hard to predict if those deficits will eventually have to be partly monetized or not."

"I see it as a very different phenomena, and I don't think they should play a big role in the current, the current debate or the way people think," Beaudry said.