As expected, the central bank held the overnight rate at 4.5%, ending, for now, the eight consecutive rate increases over the past year. The Bank is also continuing its policy of quantitative tightening. This is the first pause among major central banks. The surge in interest rates has markedly slowed housing activity. “Restrictive monetary policy continues to weigh on household spending, and business investment has weakened alongside slowing domestic and foreign demand.” The Bank of Canada sees the economy evolving as expected in its January forecasts. “Overall, the latest data remains in line with the Bank’s expectation that CPI inflation will come down to around 3% in the middle of this year,” policymakers said.
Today’s press release says, “Governing Council will continue to assess economic developments and the impact of past interest rate increases and is prepared to increase the policy rate further if needed to return inflation to the 2% target. The Bank remains resolute in its commitment to restoring price stability for Canadians.”
Most economists believe the Bank of Canada will hold the overnight rate at 4.5% for the remainder of this year and begin cutting interest rates in 2024. A few even think that rate cuts will begin late this year.
In Congressional testimony yesterday and today, Federal Reserve Chair Jerome Powell said that the US Fed might need to hike interest rates to higher levels and leave them there longer than the market expects. Today’s news of the Bank of Canada pause triggered a further dip in the Canadian dollar.
Bottom Line
The widening divergence between the Bank of Canada and the US Fed will trigger further declines in the Canadian dollar. This, in and of itself, raises the Canadian prices of commodities and imports from the US. This ups the ante for the Bank of Canada.
The Bank is scheduled to make its next announcement on the policy rate on April 12, just days before OSFI announces its next move to tighten mortgage-related regulations on federally supervised financial institutions.
To be sure, the Canadian economy is more interest-rate sensitive than the US. Nevertheless, as Powell said, “Inflation is coming down, but it’s very high. Some part of the high inflation that we are experiencing is very likely related to a very tight labour market.”
If that is true for the US, it is likely true for Canada. I do not expect any rate cuts in Canada this year, and the jury is still out on whether the peak policy rate this cycle will be 4.5%.