Political, economic crosscurrents complicate next rate decision

U.S. president Donald Trump’s trade policies have complicated the Bank of Canada’s next interest rate decision, says Jack Manley, executive director and global market strategist with J.P. Morgan Asset Management.

Speaking on the Soundbites podcast this week, Manley said the argument for continued rate cuts is being undermined by economic uncertainty and the potential impact of tariffs.

A Bank of Canada rate announcement is expected on March 12.

“[The Canadian] economy is clearly under a lot of pressure from the residual impact of higher interest rates. You see that reflected in poor GDP growth… and a high unemployment rate,” Manley said. “Those things would suggest that the Bank of Canada should feel comfortable cutting. However, you now have this threat of policy change out of Washington.”

Tariffs, Manley said, would not only be detrimental to Canadian growth, but would likely prove modestly inflationary and could further depreciate the Canadian dollar.

“So the question is, will the BoC — being data dependent — be able to look at an economy that is struggling from a growth perspective, but [also facing] a reacceleration in inflation, and figure out how to adequately balance that mandate,” he said. “We hope they can see through some of the noise and focus more on the consumer and on GDP growth and on the labour market than on inflation.”

Manley pointed out that even if inflation hasn’t yet ticked up, inflation expectations appear to be rising.

“Inflation expectations are dangerous because they can become a self-fulfilling prophecy,” he said.

The strongest argument for leaving rates alone, he added, is the uncertainty around U.S. policy.

“This uncertainty could translate into some pretty significant shifts in the economic backdrop,” Manley said. “Maybe it is best to just wait and see how things crystallize over the coming quarter.”

Overall, however, he believes the argument for continuing to cut is stronger than the arguments for either holding rates steady or for raising interest rates.

“If tariffs are levied on Canada, we might see several hundred billion dollars of economic output wiped out over the course of the next few years,” Manley said. “That would likely require some sort of stimulus to jump start or restart the Canadian consumer, if not to avoid a recession entirely, at least avoid a bad recession.”

He said lower interest rates would also translate into lower mortgage rates and open access to the Canadian housing market.

As for Canada’s elevated unemployment rate, Manley said that may simply being a case of the economy not yet catching up to recent immigration trends.

“There is a decent amount of demand for jobs in Canada, and you see that reflected in payroll numbers. The real ‘problem’ that Canada has — and you could put air quotes around problem — is that they have probably an overabundance of supply in the labour market,” he said.

Wherever the Bank of Canada lands on interest rates next week, Manley said, there are opportunities for those who engage in bottom-up security selection and active portfolio management.

“Investors need to be cautiously taking risk, if that paradox makes any sense,” he said. “The data continue to surprise. Policy continues to evolve, and the rate is murky at best. Hence this idea of being a cautious risk-taker. The way that you take risk cautiously is by investing in quality.”

In fixed income, that means investment-grade debt, Manley suggested.

“On the chance that there is a recession, investment-grade companies — or certainly sovereigns — will be much more likely to pay you back than a junk company,” he said.

In equities, Manley said it means overweighting large-cap companies and being a bottom-up, active portfolio manager.

“There is an opportunity set out there beyond the Magnificent Seven, and we’re seeing that play out as earnings growth broadens out across the index,” he said. “If you are a diversified global investor, you can take risk. You just want to do so cautiously.”

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This article is part of the Soundbites program, sponsored by Canada Life. The article was written without sponsor input.