Canada Pushes Rates To 22-Year High

The Bank of Canada pressed ahead with another rate hike on Wednesday, the second consecutive coming off a two-meeting pause.

Developments in Canadian monetary policy don’t always make for the most compelling reading (and my Canadian audience will kindly note that isn’t meant as a slight), but the evolution of Tiff Macklem’s tightening campaign is important to monitor.

Last month’s hike from the BoC mirrored the resumption of rate increases in Australia, where the RBA was likewise compelled to resume tightening following a brief interlude. The RBA’s stop-and-go act continued this month with a “hawkish hold.”

The new statement language from the BoC reiterated the Governing Council’s concerns about inflation getting “stuck,” to employ the rather disconcerting language policymakers used in June.

New projections from the updated monetary policy report suggest inflation will linger (“hover,” as the bank put it) near 3% next year, and only return to 2% “in the middle of 2025.”

“This is a slower return to target than was forecast in the January and April projections,” the bank gingerly noted, of the forecasts, adding that “the Governing Council remains concerned that progress towards the 2% target could stall, jeopardizing the return to price stability.”

I’d be remiss not to suggest that policymakers are now begrudgingly coming to terms with the possibility that core inflation might not recede to 2% again, or at least not sustainably and not anytime soon. Certainly, there’s been progress. But it’s been slow going for measures of underlying price growth.

Crucially, the 2020s reminded developed market central banks that the world is a volatile, dangerous place. Stuff happens, so to speak. Wars happen. Disease happens. Geopolitical realities change. Socioeconomic shifts occur. We can’t take subdued macro volatility for granted. Not even in advanced economies.

The BoC was forthright and plainspoken on Wednesday. “While CPI inflation has come down largely as expected so far this year, the downward momentum has come more from lower energy prices, and less from easing underlying inflation,” the bank said. “With the large price increases of last year out of the annual data, there will be less near-term downward momentum [and] with three-month rates of core inflation running around 3.5-4% since last September, underlying price pressures appear to be more persistent than anticipated,” the statement added, noting that the bank’s business surveys suggest firms are “still increasing their prices more frequently than normal.”

Late last week, Canadian payrolls data tripled estimates, underscoring a persistently tight labor market, where wage growth is running between 4% and 5%.

Generally speaking, analysts are cautious on the loonie going forward. The assumption is that the Canadian economy, vulnerable as it is to a rates-driven downturn in housing (to say nothing of highly indebted households), will ultimately underperform the US economy, which has so far taken everything the Fed has been willing to throw at it largely in stride.

Rate differentials matter a lot for CAD, so a Fed that sticks assiduously to a “higher for longer” mantra against a backdrop of relative economic outperformance, is a risk to the Canadian currency, particularly if Wednesday’s hike from Macklem is the last of the cycle.

And yet, the bank will be very reluctant to telegraph a definitive end to tightening. A rebound in the nation’s housing market following January’s pause laid bare the risk: Give consumers and markets an inch and they’ll take a mile. That explains the retention of hawkish language in the statement, which emphasized that the bank will continue to “evaluat[e] whether the evolution of excess demand, inflation expectations, wage growth and corporate pricing behavior are consistent with achieving the 2% inflation target.”

The policy rate in Canada is now 5%, the highest in more than two decades. Canada’s households are among the most indebted in the world, with a debt-to-disposable income ratio north of 185%.