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Bank of Canada says federal budget could hinder inflation fight

Bank of Canada Governor Tiff Macklem takes part in a press conference in Ottawa

By Steve Scherer and Promit Mukherjee

OTTAWA (Reuters) -Bank of Canada (BoC) Governor Tiff Macklem on Thursday said Prime Minister Justin Trudeau should avoid major spending increases in his next federal budget so they do not hinder the central bank's efforts to bring down stubborn inflation.

"If there are large spending increases ... that could start getting in the way of getting inflation back down to target on the timeline we've laid out," Macklem said in testimony to the House of Commons finance committee.

Macklem was responding to a question by a lawmaker about the federal government's upcoming budget, due to be released in March or April.

Overall government spending at federal, provincial and municipal levels is now increasing about 2.25% annually, which is not helping bring down inflation, the governor said.

But if spending in the federal budget stimulates demand, it would be "particularly problematic," he said.

During the pandemic, the country's budget deficit ballooned to historic highs, and the opposition has repeatedly criticized the Trudeau government for fueling inflation with its spending.

Bank of Canada has held its key overnight rate at a 22-year high of 5% in an effort to tame inflation, even as GDP growth has been lackluster and inflation has remained well above its 2% target. Inflation was 3.4% in December.

The governor said unexpected developments, such as a sudden supply chain blockage, could still force the central bank to raise interest rates again even though now it is more focused on when it should start to lower them.

The central bank wants to see price pressures easing and clear downward momentum in underlying inflation before it considers lowering interest rates, Macklem said.

(Reporting by Steve Scherer and Promit Mukherjee; Editing by Mark Porter)