(OTTAWA) The Bank of Canada is expected to announce its eighth consecutive interest rate hike next Wednesday and most commercial banks are forecasting a quarter-percentage-point hike.
That would take the central bank’s policy rate to 4.5%, the highest since 2007.
Although headline inflation slowed significantly last month, Royce Mendes, head of macroeconomic strategy for Desjardins Group, observes that underlying inflationary pressures are still persistent. “I think (the bank) will use all of this to justify the new rate hike,” he thinks.
Last month, the unemployment rate fell to 5% in Canada, slightly above the historic low of 4.9%.
After raising rates again in December, the Bank of Canada signaled that it was ready to take a break from its cycle of sharp rate hikes. The institution is probably encouraged by the slowdown in global inflation; after peaking at 8.1% over the summer, the annual inflation rate fell to 6.3% last month.
However, Royce Mendes noted that core measures of inflation, excluding more volatile items such as food and hydrocarbons, fell only slightly last month.
For months, market watchers have been trying to guess when the central bank would be ready to stop raising rates, with some expressing optimism that December’s hike would be the last. However, this time around most forecasters seem to agree on a rise in January, saying a rise next week would be the last rise in the cycle.
Royce Mendes also expects this to be the last raise for some time. However, in his view, “the Bank of Canada needs to ensure that it has done enough to put inflation back on track to the 2% target. And it’s still not clear.”
TD Bank Group Chief Economics Officer James Orlando believes that while it intended to stop raising rates, the Bank of Canada doesn’t seem ready to back down in its announcement next week.
Orlando expects the Bank of Canada to say it does not foresee the need for further rate hikes, but will continue to monitor changing economic conditions. This way, the door is open to further rate hikes if needed. “Obviously, if things get out of control… then she might have to raise rates again.”
Since last March, the Bank of Canada has embarked on one of the fastest rate hike cycles in its history. After cutting interest rates to near zero during the pandemic to stimulate a plummeting economy, in 2022 it has steadily raised them to quell soaring prices.
The increases have already slowed the housing market considerably and should affect the economy more broadly over time. Businesses and consumers facing higher borrowing costs will reduce spending, dampening demand and easing upward pressure on prices.
Yet so far, economists say much of the decline in inflation has been caused by factors beyond the Bank of Canada’s control, such as lower energy prices. This means that the weight of interest rate hikes has yet to be felt.
Royce Mendes sees the Bank of Canada wanting 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 businesses are losing confidence and Canadians are cutting back on spending to offset rising bills for basic necessities. At the same time, inflation expectations were still relatively high in surveys.