–BOC Governor Macklem: Governing Council Discussed Likelihood of Policy Rate Staying Restrictive for Longer
–Macklem: Rate Cut Later This Year Expected in Markets ‘Doesn’t Look Like Most Likely Scenario’
–BOC: Canada’s Labor Market Remains Tight, Demand Still Exceeding Supply
–BOC: Economy to Move into Excess Supply in 2nd Half of 2023
–BOC: CPI Inflation to Fall ‘Quickly’ To Around 3% in Mid-2023, Decline More Gradually To 2% Target by End-2024
By Max Sato
(MaceNews) – The Bank of Canada on Wednesday left its policy interest rate – the target for overnight lending rates – unchanged at 4.50% for the second consecutive meeting in a “conditional” pause during the current tightening cycle that began in March last year aimed at bringing elevated inflation back to target.
The domestic labor market remains tight and economic growth in the first quarter is forecast to post a sharp rebound after being flat at the end of 2022 amid rising borrowing costs, cooling global demand and the banking sector turmoil in the U.S. and Europe. Canada’s policy to boost immigration is likely to provide more labor supply, although a larger working population means consumer spending will also rise.
“Quantitative tightening is complementing this restrictive stance,” the bank said, noting that its stance remains tightening.
“Governing Council continues to assess whether monetary policy is sufficiently restrictive to relieve price pressures and remains prepared to raise the policy rate further if needed to return inflation to the 2% target,” it said, largely maintaining its March statement. Last month, it said, “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.”
In a post-meeting news conference, Governor Tiff Macklem stressed that it is good news that inflation is coming down quickly and the economy is expected to grow modestly, “but it is not job done.”
Macklem: High Policy Rate May Last for Longer, Rate Cuts This Year Unlikely
“Governing Council discussed whether we’ve raised rates enough and we considered the likelihood that the policy rate may need to remain restrictive for longer to return inflation to the 2% target,” he said. “Monetary policy works with a lag, and we recognize that the effects of the tightening have not yet fully worked their way through the economy.”
Asked about the possibility of lowering interest rates after pausing, Macklem replied, “When we look at the information we have today, the implied interest rate cuts built into the market curve later this year don’t look like the most likely scenario to us.”
The Bank of Canada was the first among major central banks to pause after their aggressive credit tightening last year (except for the Bank of Japan, which has been tweaking its large-scale monetary easing tools to make them more sustainable toward stable 2% inflation with substantial wage hikes).
The bank raised the policy rate for the eighth consecutive time in January with a 25-basis-point hike aimed at bringing high inflation back to its 2% target. The pace was slower than 50 bps in December and October, 75 bps in September and 100 bps in July.
Macklem: Risks Balanced but Still More Concerned about Upside
Among the risks to the bank’s projection that Governing Council discussed, the biggest upside risk is that services price inflation could be stickier than projected, Macklem said.
“If the labour market remains tight and companies believe they can continue to pass on higher costs without restraint because consumers expect higher prices, then getting inflation back to target will be more difficult,” he said.
The key downside risk is a global recession. “If global banking stress re-emerges, credit conditions could tighten significantly, resulting in a more severe global slowdown and much lower commodity prices,” said governor.
Senior Deputy Governor Carolyn Rogers also told reporters that interest rate increases are pushing up borrowing costs for Canadians and dampening demand, which means monetary tightening is working. “We have though quite a while talked about how levels of household debt being a vulnerability and it is something that we need to watch as the economy adjusts to higher interest rates,” she said.
Rogers said the effects of the banking sector strain in the U.S. and Europe including slower lending will feed through to economic growth “but for now the immediate stress has been contained.”
“Overall, we view the risks around our inflation forecast to be roughly balanced, but with inflation still well above our target, we continue to be more concerned about the upside risks,” Macklem said.
In the quarterly Monetary Policy Report, the bank noted that growth in overall government spending was robust in the second half of 2022, averaging 3.5% when adjusted for inflation. But it also said recent provincial and federal budgets suggest that government spending growth will moderate to around 2.5% in the first half of 2023 and then slow to near the pace of potential growth of 2%.
Roughly C$25 billion per year in additional fiscal measures is added to the projection compared with the January Report, but the governor said it is unlikely to undermine the bank’s efforts to cool off demand.
“Government spending plans are not contributing to slowing of growth that we see in our projection, but at the same time, they are not standing in the way of getting inflation back to the 2% target,” he said.
The bank is scheduled to announce its next monetary policy decision on June 7.
BOC Revises Up 2023 GDP Forecast, Revises Down 2024 Projection
“In Canada, demand is still exceeding supply and the labour market remains tight,” the bank said.
The latest data showed that the Canadian economy rebounded a sharp 0.5% on the month in January, thanks to mild weather and solid consumption on services, following a slight 0.1% contraction in December, and Statistic Canada’s advance estimate showed GDP gained 0.3% in February.
The bank raised its 2023 GDP growth forecast to 1.4% from 1.0% projected in January while revising down its 2024 growth forecast to 1.3% from 1.8%. In its first estimate, the bank forecast Canada’s economic growth will pick up to 2.5% in 2025.
“Overall, GDP growth is projected to be weak through the remainder of this year before strengthening gradually next year,” the bank said. “This implies the economy will move into excess supply in the second half of this year.”
Asked about the possibility of a recession, Macklem told reporters, “We are not forecasting a major contraction. We are not forecasting large increases in unemployment. In that sense, it’s not what people associate with the word recession.”
“Our baseline forecast is for positive but weak growth and declining inflation,” he said.
The International Monetary Fund this week forecast that global economic growth will decelerate from 3.4% in 2022 to 2.8% in 2023 while advanced economies will see a more pronounced slowdown from 2.7% in 2022 to 1.3% in 2023. “In a plausible alternative scenario with further financial sector stress, global growth declines to about 2.5% in 2023 with advanced economy growth falling below 1%,” the IMF said.
BOC Still Expects Inflation to Return to Target in 2024
The bank said it expects CPI inflation to fall “quickly” to around 3% in the middle of this year and then decline “more gradually” to the 2% target by the end of 2024.
Its consumer inflation outlook for 2023 is 3.5%, little changed from 3.6% projected in the previous report issued in January. The consumer price index jumped 6.8% in 2022 after a 3.4% rise in 2021.
As for the CPI in 2024, the bank forecast the annual inflation rate will drift down to 2.3%, just above its 2% target and unchanged from its January projection. The bank’s first CPI estimate for 2025 is 2.1%.
“Recent data is reinforcing Governing Council’s confidence that inflation will continue to decline in the next few months,” it said, “However, getting inflation the rest of the way back to 2% could prove to be more difficult because inflation expectations are coming down slowly, service price inflation and wage growth remain elevated, and corporate pricing behaviour has yet to normalize.”
“As it sets monetary policy, Governing Council will be particularly focused on these indicators, and the evolution of core inflation, to gauge the progress of CPI inflation back to target.”
Two of the BOC’s core inflation measures have been easing gradually. The year-over-year increase in the CPI trim was 4.8% in February, down from 5.1% in January, but it is still above 4.1% seen at the start of 2022. The annual rate in the CPI median edged down to 4.9% in February from 5.0% the previous month, but is well above 3.5% in January 2022, when the world had not seen the impact of Russia’s invasion of Ukraine on energy and commodity prices. Those measures strip out whatever is volatile at the time.