Towards an 8th consecutive increase in interest rates

Although headline inflation slowed significantly last month, Royce Mendes, head of macroeconomic strategy at Desjardins Group, observes that underlying inflationary pressures remain. “I think (the bank) will use all of this to justify a new rate hike,” he said.

Canada’s unemployment rate fell to 5% last month, slightly above the historic low of 4.9%.

After raising rates again in December, the Bank of Canada has indicated it is ready to take a break from a period of sharp interest rate hikes. The organization is likely encouraged by the slowdown in headline inflation; After reaching 8.1% in the summer, the annual inflation rate fell to 6.3% last month.

However, core measures of inflation, excluding more volatile items such as food and hydrocarbons, eased slightly last month, Royce Mendes noted.

For months, market watchers have been trying to guess when the central bank will be ready to stop raising interest rates, with some expressing optimism that December’s hike will be the last. This time, however, most forecasters agree on a hike in January, saying next week’s hike will be the last hike in the cycle.

Royce Mendes also expects this to be the last increase for some time. However, he said, “The Bank of Canada needs to ensure that it is doing enough to bring inflation back to its 2% target. And it’s still not clear.”

TD Bank Group Chief Economist James Orlando believes the Bank of Canada does not appear ready to back down in a statement next week, even though it intends to hold off on rate hikes.

James Orlando expects the Bank of Canada to say it sees no need for further rate hikes but will continue to monitor changing economic conditions. That way, the door is open for more rate hikes if needed. “Obviously, if things get out of hand? then may have to raise rates again.”

Since last March, the Bank of Canada has embarked on one of the fastest rate hikes in history. After cutting interest rates near zero to stimulate a shrinking economy during the pandemic, it raised them steadily in 2022 to calm rising prices.

The increases have already slowed the housing market considerably and should have a broader effect on the economy over time. Faced with higher borrowing costs, businesses and consumers will cut spending, reducing demand and putting upward pressure on prices.

Still, economists say much of the decline in inflation is due to factors beyond the Bank of Canada’s control, such as lower energy prices. This means that the weight of the interest rate hike has not yet been felt.

Royce Mendes sees the Bank of Canada looking to balance the risks of raising rates too much or too little. “It’s a very difficult balancing act,” he explains.

The Bank of Canada will also release its quarterly monetary policy report on Wednesday, which will provide updated forecasts for economic growth and inflation.

As the Canadian economy reacts to higher interest rates, many economists say Canada will enter a mild recession this year. There are signs that high interest rates and inflation are weighing on businesses and consumers.

This week, the Bank of Canada released its Business Outlook and Consumer Expectations Surveys, which showed that businesses are losing confidence and Canadians are cutting back on spending to offset rising bills for essentials. At the same time, inflation expectations were still relatively high in surveys.

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