By Paul Vieira
OTTAWA--The Bank of Canada left its policy rate unchanged Wednesday at 2.25%, with Gov. Tiff Macklem saying this marked the best approach to addressing the dual-side risks of a weak economy and higher energy prices.
The central bank expects inflation to be around 3% in the next coming months, or at the high end of its 1% to 3% target range, due to elevated crude-oil prices. To date, Macklem said there's little evidence of higher energy costs broadening to lift prices for other good and services. The central bank sets interest-rate policy to achieve and maintain 2% inflation.
After a shock 0.1% annualized decline in first-quarter gross domestic product, Macklem said policymakers forecast growth to resume in the second quarter - although spare capacity, or slack, will persist. Generally, scads of slack signal weakness and tend to place a lid on companies' ability to raise prices. The central bank had projected 1.5% annualized growth in the January-to-March period.
"Economic weakness combined with rising inflation is a dilemma for monetary policy," Macklem said, according to prepared remarks he is scheduled to deliver at a press conference. "Raising rates to dampen inflation could further slow the economy. Easing rates to support growth increases the risk that higher inflation becomes persistent. For now, holding the policy rate unchanged balances those risks."
All 14 economists surveyed by The Wall Street Journal last week predicted the central bank would make no change to the target for the overnight rate, which has sat at 2.25% since October.
The drop in first-quarter GDP marked the second consecutive quarterly contraction, and the third in four quarters, triggering a debate about whether Canada is in a recession. The C.D. Howe Institute think tank's business-cycle council, the recognized arbiter of declaring a recession, said it was premature to describe the current downturn as such because it lacked depth and diffusion.
Weak growth, along uncertainty regarding the Middle East conflict and U.S. trade policy, is forcing the Bank of Canada to take a more nimble approach to policymaking. Like it did in its previous decision in April, Macklem provided scenarios that would prompt policy changes - namely, a rate cut should the U.S. impose new trade measures against Canada, and rate increases should the war in Iran drag on and higher energy prices lift longer-term inflation expectations among businesses and households.
Some economists expected the central bank to retain such language in Wednesday's decision, like in April, as a way to keep inflation expectations in check.
Macklem said senior officials "agreed to look through the war's near-term impact on inflation but if energy prices stay high, we will not let their effects become broad-based persistent inflation."
Inflation in Canada rose 2.8% in April, while the Bank of Canada's preferred gauges of core inflation - which strip out volatile items like food and energy - averaged 2.05%, or the slowest pace in more than five years. The tame core readings offer central-bank officials time to be patient on whether rate increases are necessary to tame war-fueled inflation, economists say.
Write to Paul Vieira at paul.vieira@wsj.com
(END) Dow Jones Newswires
06-10-26 1008ET
