November 3, 2014 / 6:09 PM / 3 years ago

Bank of Canada head says worried about downside inflation risk

Bank of Canada Governor Stephen Poloz takes part in a news conference in Ottawa July 16, 2014. REUTERS/Blair Gable

TORONTO (Reuters) - The Bank of Canada is more concerned about the risk of weaker-than-expected inflation and soft growth than it would be about a jump in inflation and strong growth because such upside moves are easier to manage, Governor Stephen Poloz said on Monday.

His comments were perceived as dovish by market players and weighed on the Canadian dollar as they suggest the central bank is in no hurry to tighten policy.

“If we realized a downside risk, that would be a more significant event, since interest rates are already very low and we’ve done everything we think we are capable of doing,” Poloz told reporters, while noting the bank has other tools available.

“The downside risk would be a much harder challenge for policymakers anywhere, not just here in Canada.”

With inflation in Canada returning to around 2 percent from near the bottom of the Bank of Canada’s target range of 1 to 3 percent, the bank has referred less to downside worries lately.

However, Poloz attributed some of the rise in inflation to temporary factors, and said labor conditions point to economic slack.

TD Securities senior Canada macro strategist Mazen Issa said even though Poloz has emphasized neutrality, “he’s choosing to err on the side of caution as opposed to looking at what are the positives that have been happening in the economy”.

Global rates will remain lower than in the past for a prolonged period because of restraints facing the economy, Poloz said, recognizing that some critics are asking if this lengthy period of low rates is sowing the seeds of the next financial crisis.

“I might ask in response: What is it you would have us do, then?” he said, adding that if Canada and the United States had moved their policy rates back up to neutral in 2011, the jobless rate would be two percentage points higher and core inflation would be between zero and 1 percent.

Some commentators say Canada’s post-recession housing market boom, fueled by low rates, could result in a U.S.-style crash.

Poloz said household imbalances appear to be edging higher but these should eventually ease.

Canada’s household debt and housing situation is “very different from what we saw in the United States just before the (2008 financial) crisis” because of a number of steps taken by the government and the banking supervisor, and because of high-quality underwriting.

He reiterated his forecast that it will take around two years to soak up Canada’s excess capacity.

Asked if the bank’s decision generally to abandon forward guidance on rates increased market volatility, he said natural volatility stemmed from economic data and it was not up to the central bank to cut off that channel of adjustment.

Additional reporting by Leah Schnurr in Ottawa and Andrea Hopkins and Alastair Sharp in Toronto; Writing by Randall Palmer; Editing by Peter Galloway

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