The Bank of Canada said it’s more worried about not raising interest rates high enough to quell inflation than it is about inflicting additional economic pain.

Governor Tiff Macklem said that while hiking rates too much could drive the economy into a more painful-than-necessary recession, the “greater risk” remains failing to sufficiently restrict financial conditions.

“We are trying to balance the risks of over-and under-tightening monetary policy,” Macklem said in a year-end speech Monday in Vancouver, according to the prepared text. “If high inflation sticks, much higher interest rates will be required to restore price stability, and the economy will have to slow even more sharply.”

The Canadian dollar briefly jumped to a session high of $1.3619 per U.S. dollar after the release of his remarks before paring those gains. 

The comments suggest that while the central bank has pivoted to fine-tuning its rate adjustments, officials would rather err on the side of going too far in raising borrowing costs, for fear of losing control of inflation expectations.

In a policy decision last week, Macklem raised the benchmark overnight rate by half a percentage point while signaling policymakers are open to ending the bank’s aggressive tightening cycle. The move was expected by a slim majority of economists in a Bloomberg survey, though few anticipated the hint at a potential pause.

Macklem reiterated that decisions to “raise the rate or to pause and assess” will be guided by incoming economic data, and that the bank remains committed to its 2 per cent inflation target.

“Our resolve is absolute. We will restore price stability for all Canadians,” Macklem said.

The governor flagged lessons from 2022 in his speech, including an admission that the central bank underestimated supply challenges in the economy, which are more inflationary in an overheated economy.

“Even if long-term inflation expectations are well anchored, when the economy is in excess demand, businesses raise their prices more quickly and by more when their costs increase,” he said.

Citing Russia’s invasion of Ukraine and a rise in populism that is causing nations to turn inward, he said global trade “will likely narrow to more trusted partners” in future.

Over the longer term, he said it’s likely “we won’t have the same disinflationary forces that we’ve had for the past 30 years.” That in turn “could make it harder to bring inflation back to the 2 per cent target and keep it there.”

Before Monday’s speech, markets put the odds of another 25 basis point increase at the bank’s Jan. 25 meeting at just below a coin flip.

Macklem will take questions from reporters after the speech.