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Bank of Canada governor Tiff Macklem has opened the door to accelerating the pace of interest rate cuts, signalling policymakers could switch to jumbo 50-basis-point moves should growth disappoint.

The G7 economy grew by an annualized rate of 2.1 per cent during the second quarter, but concerns are mounting that falling oil prices, higher unemployment and lower levels of immigration could tip Canada close to stagnation.

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Macklem said rate-setters were increasingly concerned about Canada’s labour market and the possibility of lower prices for crude hitting the economy.

The Canadian central bank has led the way on interest rate reductions, cutting by a quarter-point in its three meetings since June to bring borrowing costs down to 4.25 per cent from a peak of five per cent.

With inflation at 2.5 per cent, now close to the bank’s two per cent goal, Macklem said in London last week that there was now room to step up the pace of rate cuts.

“As you get closer to the (inflation) target, your risk management calculus changes,” he said. “You become more concerned about the downside risks. And the labour market is pointing to some downside risks.”

Canadian unemployment reached 6.6 per cent in August, from a low of 4.8 per cent in 2022, a much faster increase than in the United States. American unemployment, by contrast, has risen only to 4.2 per cent from a pandemic-era low of 3.4 per cent.

The U.S. Federal Reserve is expected to cut interest rates for the first time in more than four years on Wednesday, from a 23-year-high range of 5.25 per cent to 5.5 per cent.

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Canadian job vacancy and hiring rates have also fallen below their pre-pandemic norms, unlike those in the U.S.

The Bank of Canada still expects the economy to expand by two per cent in 2024 and by 2.1 per cent next year.

But if growth does not materialize as expected, “it could be appropriate to move faster (on) interest rates,” Macklem said. He noted that there was currently “enough slack” in the (Canadian) economy to bring inflation back down to target.

“We don’t want to see more slack,” he said, implying that the central bank would cut rates more aggressively should growth disappoint.

Concerns about the health of the Canadian economy have spread across the business and financial community.

Speaking at the Canada Club in Toronto on September 10, David McKay, chief executive of Royal Bank of Canada, one of the world’s largest banks, said Canada was “heading in the wrong direction.”

Added to the list of downside risks worrying the governor is an oil price that has sharply fallen in recent weeks. The G7 economy is a large net energy exporter, with the oil and gas industry accounting for more than three per cent of GDP in 2022, according to the Canadian Association of Petroleum Producers.

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Macklem said Canadian oil producers were used to fluctuating global prices, but that “if it’s a really sharp cycle, it’s going to have a big impact.”

The governor said the central bank had not yet decided on a faster path of rate cuts and there were still upside risks to inflation that it needed to monitor, including shelter prices, predominantly rent and mortgage interest costs.

The Canadian rental market has been tight due to supply constraints that have been exacerbated by recent large increases in immigration. Rent prices rose close to nine per cent in the year to July. Canada added about 500,000 immigrants, a historically high level against a population of 39 million, in 2023.

“We expect to see rent price inflation come down,” Macklem said, though he acknowledged “that could take some time.”

Meanwhile, Canadian productivity growth has been surprisingly weak since the pandemic, underscoring its economic troubles relative to the U.S.

“What we thought was that as those supply chain disruptions are worked out … new workers get trained, you should see some pick-up in productivity growth. That is not what happened in Canada and, in fact, it’s not what’s happened in the U.K. It’s not what’s happened in Europe,” Macklem said.

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“There’s something about the pandemic that has really hurt productivity growth in many of our countries … the U.S. is the exception.”

Economic output has been held up in Canada by a significant inflow of immigrants. But that may change going forward, as the federal government recently announced curbs to temporary foreign workers.

While a reduction in immigration could take some heat out of the Canadian rental market, it is expected to make the economic situation worse.

Macklem hoped that the reduction in consumer demand implied by fewer immigrants would be offset by easing borrowing costs.

“Our expectation is you’re going to start to see per-capita consumption coming up,” he said.

Additional reporting by Ilya Gridneff in Toronto.

© 2024 The Financial Times Ltd.

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