Today the Bank of Canada (BoC) resumed its monetary policy tightening campaign and increased its Key rate by 0.25%. This lifts their policy rate to 4.75% and will raise the Prime rate of interest at major financial institutions (FI) to 6.95%. BoC had held the line with no rate changes since January as it thought rates may have been high enough to stave off inflation. They seem to have based their decision to raise their Key rate based upon data over the past month which was stronger than anticipated.
The Canadian dollar was up roughly 40 basis points on this move by the BoC, which will have a minor effect against inflationary pressures. Some strategists are thinking that another hike may come in July if economic data remains strong.
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The best summary of analysis I believe today comes from staff a writer at the Globe & Mail (David Parkinson): https://www.theglobeandmail.com/business/article-live-updates-bank-of-canada-interest-rate/
“Am I shocked by the Bank of Canada’s quarter-percentage-point rate hike this morning? No. But I am surprised. This requires some re-thinking of how to interpret the central bank’s communications.
In this morning’s announcement, the bank underlined that it decided to resume rate hikes “based on an accumulation of evidence.” Yet it wasn’t necessarily the “evidence” that the bank had previously specified it was focusing on to determine whether it would need further rate increases to bring inflation down to the 2-per-cent target.
The bank had communicated, specifically, that it would watch the evolution of core inflation; service-sector inflation; business pricing behaviour; wage growth; and inflation expectations. This bundle of indicators appeared to be what the bank would need to accumulate, in one direction or another, to move its interest rate stance away from on-hold.
But the key phrase in this morning’s announcement is found at the end of the third paragraph: “Overall, excess demand in the economy looks more persistent than anticipated.”
Bottom line, the bank looked at the big-picture economic data – most importantly, last week’s stronger-than-expected first-quarter GDP report – and saw more excess demand in the economy than it had bargained for at this point. This created a sense of urgency that appears to have pushed those other indicators to the back burner of the bank’s analysis.
Despite having put rates on pause in order to take a wait-and-see approach, it seems that the bank is not, in fact, willing to wait and see if the GDP numbers – or April’s small uptick in inflation, or the recent upturn in housing activity – are short-term blips. They have overruled waiting to see how those other indicators evolve.
The big question now is, where do we go from here? On that, the bank offered few helpful clues. The final paragraph of today’s statement – where the bank typically signals future direction – only says that its governing council will “continue to assess the dynamics of core inflation and the outlook for [consumer price index] inflation.” It doesn’t talk about assessing whether rates are “sufficiently restrictive,” as it did in the April rate statement – perhaps suggesting that another rate hike in July is not in the bank’s base-case plan.
But without further information, it’s hard to know just how to frame this. I’ll look to Thursday’s post-announcement speech from deputy governor Paul Beaudry to get a clearer sense of what the bank is thinking. The Bank of Canada certainly has some explaining to do.”