Tiff Macklem warns about recession risks if monetary policy is eased

The Governor of the Bank of Canada has issued a cautious signal regarding potential interest rate cuts amid weak economic performance. The main concern is not acting in the face of a contraction but accurately assessing what type of recession the Canadian economy is experiencing. According to Jin10 reports, this distinction is crucial for determining the appropriate monetary strategy.

The key difference between two contraction scenarios

Macklem emphasized a fundamental point: not all economic recessions require the same policy response. If economic weakness stems from a cyclical decline in aggregate demand, monetary easing could stimulate consumption and investment. However, the concerning scenario is different: when the contraction is driven by a reduction in the economy’s productive capacity, lowering interest rates can be counterproductive.

Inflation as the main risk of expansionary monetary policy

Lowering rates in a context of limited productive capacity creates a dangerous dynamic: less production combined with more circulating money inevitably leads to inflationary pressures. This is the central concern of the central bank regarding the current recession. A monetary policy that ignores this distinction risks exacerbating the very problem it aims to solve: inflation.

Macklem’s message reflects the complexity faced by modern central banks. It’s not simply about reacting to signs of economic weakness but correctly diagnosing its root causes before implementing monetary policy adjustments that could worsen existing economic imbalances.