–Canada’s Consumer Inflation Has Eased but Remains High Just Under 7%
–BOC Seeking Balance Between Cooling Demand and Avoiding Sharp Downturn
By Max Sato
(MaceNews) – The Bank of Canada is set to conduct what could be one of its last rate hikes in the current tightening cycle in three weeks, possibly raising its short-term interest rate target by another 50 basis points to 4.25%, economists predict after Wednesday’s data showed consumer inflation has eased but remains too high and broad for sustained economic growth.
The consumer price index rose 6.9% on the year in October, with the pace of increase steady from the rate in September, as largely expected. The CPI jumped 0.7% on the month in October after a 0.1% gain in September, largely driven by a 9.2% rebound in gasoline prices after a 7.4% dip the previous month.
Food prices remain well above year-earlier levels, although the pace of year-on-year increased decelerated slightly to 10.1% October from 10.3% in September. The aggressive tightening by the bank led mortgage interest costs to surge 11.4% on year, the highest increase since February 1991, when they rose 11.7%.
Excluding food and energy, consumer prices rose 5.3% from a year earlier in October, easing slightly from a 5.4% rise in September.
By contrast, two of the BOC’s core inflation measures inched up. The year-on-year increase in the CPI trim was 5.3% in October, up from 5.2% in September, while the annual rate in the CPI median rose to 4.8% from 4.7%. Those measures strip out whatever is volatile at the time.
Inflation in Canada measured by the total CPI has moderated from a recent peak of 8.1% hit in June to 6.9% but it is still well above the central bank’s 2% target.
For the Bank of Canada, the 6.9% reading is just under its latest projection of 7.1% for the October-December quarter provided in its Monetary Policy Report issued last month, and it keeps the debate over the next rate decision very much alive, between 25 and 50 basis point hikes, Douglas Porter, chief economist at BMO Financial Group, said, adding his forecast is for a 50 bps rise in December.
“Given that most measures of core inflation remain locked in a range around 5%, we continue to believe that overnight rates will ultimately need to go above 4% to eventually crack underlying inflation,” he said.
In its latest tightening action on Oct. 26, the BOC raised its policy interest rate — the target for overnight lending rates — by 50 basis points to 3.75% in a sixth consecutive hike in the tightening phase that began in March. The move followed five rate hikes totaling 300 basis points, by 75 bps to 3.25% in September and 100 bps to 2.5% in July, which was the biggest increase since 1998.
Avery Shenfeld, chief economist at CIBC Capital Markets, also forecasts another 50-basis point rate increase on Dec. 7.
“We don’t expect them to do more than a half percent before taking a pause,” he said. “So, if they hike 50 basis points in December, they wouldn’t be hiking in 2023.”
“The key to that pause will be to see some signs that economic growth is close to stalling,” Shenfeld noted. “We won’t have to see an outright decline in GDP or employment, but we likely have to see some evidence in the first quarter that the unemployment rate is edging up a bit.”
Before the next policy decision on Dec. 7, BOC policymakers will see a few more key indicators including the July-September quarter GDP on Nov. 29 and November jobs data on Dec. 2.
“Q3 GDP will be less important than the trend after that, particularly for late Q4 and early Q1 indicators, since Q3 was too early to pick up a lot of the impact of higher interest rates,” Shenfeld said.
“We are expecting a fairly sluggish pace of job growth, on average, over the next several months, and a bit of a rise in the unemployment rate,” he said. “We don’t have much confidence in anyone’s ability to forecast a single month of that employment data, since it is based on a sample of households, rather than on data from employers, and the sample size isn’t large enough to accurately measure one month changes.”
In a statement to the Senate Committee on Banking, Commerce and the Economy on Nov. 1, Governor Tiff Macklem indicated that the bank’s aggressive tightening mode is coming closer to an end but also stressed its job to restore price stability is not done yet amid elevated inflation.
He repeated the bank’s rate hike statement from Oct. 26 that the Governing Council expects the policy rate “will need to rise further” but didn’t drop any hints on the scale of the next rate hike, possibly at the Dec. 7 meeting.
Instead, he said, “How much further will depend on how monetary policy is working to slow demand, how supply challenges are resolving and how inflation and inflation expectations are responding to this tightening cycle.”
The governor said BOC policymakers are “mindful” that adjusting to higher interest rates is difficult for many Canadians as many households have significant debt loads and higher interest rates add to their burden, but he also said higher interest rates in the short term will bring inflation down in the long term.
Macklem’s comments appeared aimed at average Canadians, instead of market participants.
BMO’s Porter warns not to read too much into the governor’s comments in any event “because he has shown that he is quite willing to surprise market expectations.”
“Having said that, I do believe they are getting near the end of hikes, with the debate now somewhere between another 25 bps and another 75 bps,” which would put the terminal rate between 4% and 4.5%, he said. “His comments could support either ends of that debate. And frankly now I think it’s up to the data to decide.”
Early signs of easing price pressures will give the Bank of Canada “some confidence that interest rates are near levels that are restrictive enough to ensure inflation return back to target over time,” RBC economists said. Their forecast is for another 25-basis point hike in December to being the overnight rate to a terminal value of 4% but they noted “risks are still tilted to the upside.”
Leslie Preston, senior economist at TD Economics, wrote in a report that the latest inflation data underscores the need for the BOC to keep the pressure on interest rates to help bring down inflation.
“October’s CPI report is one of two key remaining data releases before the Bank of Canada’s next rate decision in three weeks, and it certainly ticks the box for another 50-basis point increase,” she wrote.
She noted that job vacancies show Canada’s labour market remains very tight, and added that even if a weak report comes out, it is unlikely to move the needle enough on the job market to move the BOC off its tightening bias.
Macklem said in a speech on restoring labour market balance and price stability on Nov. 10 that slower economic growth will likely lead to higher unemployment and that BOC policymakers know that job losses have a human cost.
“But because the labour market is so hot and we have an exceptionally high number of vacant jobs, there is scope to cool the labour market without causing the kind of large surge in unemployment that we have typically experienced in recessions,” he said.
Macklem noted that Canada’s high immigration targets suggest that net immigration will account for over two-thirds of the expected growth in Canada’s potential output. To raise labor participation, the country can also bring in more women workers by improving universal child care, he said, but added that enhancing labor supply takes time and new workers will have new incomes, which add to spending in the economy.
“That’s why increasing supply, while valuable, is not a substitute for using monetary policy to moderate demand and bring demand and supply into balance,” he concluded.
One way to explore the needed adjustment in the labour market is through the lens of what economists call the Beveridge curve, which depicts the typically inverse relationship between job vacancies and unemployment, said the governor.
“In terms of the labour market, I believe almost all are potentially important, if they begin to mark a notable shift in trend, either weaker or stronger,” BMO’s Porter said. “But I suspect at this point they (BOC policymakers) are most concerned about the various wage measures. As a leading indicator, I believe they will be watching the job openings data especially closely to see some dimming of the excess demand. “