Deputy governor flags supply shocks forcing tough rate calls even as economist urges cuts
The Bank of Canada says it may need to tighten policy even when the economy is weak — at the same time a prominent Bay Street economist argues it should already be cutting.
According to the Financial Post, deputy governor Sharon Kozicki told an audience in Oslo that recent “supply-side shocks” can both push prices higher and slow growth, making the inflation fight more complicated for central bankers.
She noted that, historically, a strong economy tended to push inflation above the Bank of Canada’s 2 percent target.
Now, she said, the COVID-19 pandemic and supply chain squeezes, including the global chip shortage, have become “major drivers of inflation” as disruptions to goods and services move through the economy.
The Financial Post reported that inflation reached eight percent in 2022, its highest level in 40 years, after the COVID-19 shock and the stimulus that followed.
While rate hikes brought inflation back to target, Kozicki said some Canadians are still struggling with a higher cost of living and that workers in sectors most affected by US tariffs worry about losing their jobs.
Kozicki stressed that the central bank has no intention of abandoning its two percent inflation target, which sits within a one to three percent control range.
As per the Financial Post, she said a 25-year track record has established that target in Canadians’ expectations and added, “We’re confident two percent is still the best target for Canada.”
Bloomberg reported that she framed her remarks as renewed support for the Bank of Canada’s flexible inflation-targeting framework, which she said gives policymakers more leeway when setting borrowing costs during periods of supply-side pressure.
The core policy message is that supply shocks can force unpalatable choices.
According to Reuters, Kozicki said that “many people may find it surprising or couterintutive that, at times, monetary policy needs to be tightened when the economy is weak.
Yet that is exactly the difficult trade-off we sometimes face.”
Reuters also reported her remark that “when a supply shock is expected to have large or persistent impacts on inflation, some degree of policy restraint will be needed to bring inflation back to target.”
Bloomberg said Kozicki outlined how, when the economy is in excess supply and inflation is above target, policymakers cannot simply cut borrowing costs to support growth.
Options in that scenario include holding rates steady, cutting by less than they would in response to a demand shock, or even hiking.
When a supply shock has “small or short-lived” effects on inflation and the economy is weak, central banks may be able to wait for inflation to return to target on its own.
According to Reuters, Kozicki said none of these scenarios form part of the Bank of Canada’s current monetary policy deliberations and she did not mention the US and Israeli attacks on Iran.
The bank is expected to keep its key rate at 2.25 percent at its March 18 decision, the level it says should keep inflation close to the two percent target as long as its forecasts hold true.
Bloomberg noted that the Bank of Canada held that policy rate at 2.25 percent in January for a second straight meeting and said borrowing costs are “about the right level” to help the economy adjust to structural damage from the trade war with the United States.
Kozicki also argued that the economy is undergoing structural change.
The Financial Post reported that she pointed to artificial intelligence, geopolitical tensions, an aging population and more frequent extreme weather events as forces that mostly affect the supply side by altering production costs, the efficient use of capital and labour, and the availability of goods and services.
She said some shocks are temporary, but others reflect transformations that can permanently change how much the economy can produce without generating inflation and “change the overall makeup of the economy.”
As per the Financial Post, she said Canada is living through a period of structural change that includes the impact of AI and “a dramatic shift in US trade policy” that is rewiring global trade and Canada’s relationship with its largest trading partner.
She said US tariffs imposed last spring have left Canadian exports roughly five percent lower than before President Donald Trump was re-elected in 2024, weakening the economy.
To navigate this environment, the Financial Post reported that the Bank of Canada is relying more on non-traditional data such as credit and debit card transactions, retail payments and passenger and freight traffic at the Canada–US border, alongside business surveys.
Kozicki highlighted the Business Leaders’ Pulse survey as “invaluable” for tracking expectations about how long trade tensions may last and how that shapes firms’ willingness to pass higher costs on to customers.
Against that backdrop, BNN Bloomberg reported that David Rosenberg, president and chief economist and strategist at Rosenberg Research & Associates, argued the Bank of Canada should not “be sitting on the sidelines.”
He said Canadian GDP is tracking near one percent growth and that inflationary pressure is “clearly subsiding, energy aside.”
According to BNN Bloomberg, Rosenberg expects the Bank of Canada’s next move to be a rate cut and noted that while the policy rate is 2.25 percent, “nobody borrows at the policy rate,” estimating the average interest rate for a typical Canadian closer to five percent.
He said “market rates — the rates that matter — haven’t come down nearly as much as the overnight rate.”
Rosenberg treats geopolitical shocks — including renewed tensions in the Middle East — as short-term “risk-off” events, not grounds to overhaul long-term portfolios.
He pointed to beaten-up sectors such as airlines and travel as potential rebound plays once uncertainty passes.
