–BOC Governor Macklem: Monetary Policy Working but Underlying Inflationary Pressures More Stubborn
–Macklem: Our Job is Not Done Until Inflation is Centered on 2% Target
–Macklem: Trying to Balance Risks of Under- and Over-Tightening Policy
–BOC Quarterly Report: CPI to Slow to 2% Target in mid-2025, About 6 months Later Than Expected in April
By Max Sato
The move is widely expected and followed a surprise 25-basis point rate hike last month and a “conditional” pause in April and March. In January, the bank raised the policy rate for the eighth consecutive time with a 25-basis point hike, slowing the pace from 50 bps in December and October, 75 bps in September and 100 bps in July last year.
With today’s rate hike, the bank has tightened rates by a total of 475 basis points (4.75 percentage points), jacking up the key rate through 10 increases from its record low of 0.25%.
Bank of Canada Governor Tiff Macklem told a news conference that “monetary policy is working” as consumer inflation has come down to 3.4% in May from a recent peak of 8.1% hit in June last year. But he quickly added that “underlying inflationary pressures are proving more stubborn.”
“We are trying to balance the risks of under- and over-tightening monetary policy,” he said. “If we don’t do enough now, we will likely have to do even more later. If we do too much, we risk making economic conditions unnecessarily painful for everybody.”
The consensus among Governing Council was that monetary policy needed to be “more restrictive” to bring inflation back to the 2% target, the governor said.
“These decisions are difficult, and we did discuss the possibility of holding rates unchanged and gathering more information to confirm the need to raise the policy rate,” he added. “On balance, our assessment was that the cost of delaying action was larger than the benefit of waiting.”
Governor Macklem: Taking One Decision at a Time; Our Job Is Not Done
The question is whether the central bank is done with its job of cooling off the economy with higher borrowing costs for households and businesses and bringing inflation back to target.
“The short answer is we will be taking each decision based on the information available at the time,” Macklem said. “What we are saying now is that we are taking one decision at a time.”
The governor noted that while monetary policy is working, it works with a delay. “We know that the full effects of the past interest rate increases we already done have not fed through,” he said.
He also maintained his recent view that “it is too early” to discuss cutting interest rates.
“The substantial drop in inflation over the past year is welcome news for all Canadians,” he said. “But monetary policy still has work to do — our job is not done until inflation is centered on our 2% target.”
The bank said its rate hike decision reflects “the accumulation of evidence that excess demand and elevated core inflation are both proving more persistent” and based on the bank’s revised outlook for economic activity and inflation.
In the quarterly Monetary Policy Report for July, CPI inflation is forecast to hover around 3% for the next year before gradually declining to 2% in the middle of 2025.
Governing Council Concerned Progress Toward 2% Target Could Stall
“This is a slower return to target than was forecast in the January and April projections,” the bank said. “Governing Council remains concerned that progress towards the 2% target could stall, jeopardizing the return to price stability.”
Quantitative tightening is complementing the restrictive stance of monetary policy and normalizing the bank’s balance sheet, the bank said.
“Governing Council will continue to assess the dynamics of core inflation and the outlook for CPI inflation,” the bank said. “In particular, we will be evaluating whether the evolution of excess demand, inflation expectations, wage growth and corporate pricing behaviour are consistent with achieving the 2% inflation target.”
In its last rate announcement on June 7, the bank said its policymaking panel decided to increase the policy interest rate, “reflecting our view that monetary policy was not sufficiently restrictive to bring supply and demand back into balance and return inflation sustainably to the 2% target.”
Since the June meeting, the annual consumer inflation rate has eased to 3.4% in the latest data for May from 4.4% in April, hitting the lowest since 3.1% in June 2021 due mainly to lower energy costs in a base-year effect.
Two of the BOC’s core inflation measures have been easing gradually. The year-over-year increase in the CPI trim decelerated to 3.8% in May from 4.2% in April, hitting the lowest since 3.5% in November 2021. The annual rate in the CPI median also slowed to 3.9% in May from 4.3% in April but it is still 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.
“While the bank expects consumer spending to slow in response to the cumulative increase in interest rates, recent retail trade and other data suggest more persistent excess demand in the economy,” the bank said on Wednesday.
“In addition, the housing market has seen some pickup,” it said. “New construction and real estate listings are lagging demand, which is adding pressure to prices.”
Asked whether the bank can still bring inflation back to target while the housing market is relatively strong, Macklem said, “The short answer is yes.”
Housing is expected to make a negative contribution (by 0.8 percentage point) to GDP growth in 2023 (1.8% projected) as the housing sector posted a large contraction in the first half of the year, but its contribution is expected to turn positive (plus 0.5 point) in 2024, when GDP is forecast to rise 1.2%, and stay positive in 2025, adding 0.6 point to growth (2.4% forecast), the governor said, quoting the bank’s latest forecast in the July MPR.
“We’ve already seen the housing market start to pick up and our forecast has that it is continuing with modest growth,” Macklem said. “In 2024, housing contributes positively to growth, nevertheless consumer spending slows quite a bit from what it was this year. Consumer spending is a lot bigger than housing in GDP, so the net effect is growth overall slows.”
Housing prices have remained high in Canada because of strong demand and short supply while the property market is the most sensitive segment of the economy to interest rate changes, BOC officials have said.
“In the labour market, there are signs of more availability of workers, but conditions remain tight, and wage growth has been around 4% to 5%,” the bank said. Strong population growth from immigration is adding both demand and supply to the economy: newcomers are helping to ease the shortage of workers while also boosting consumer spending and adding to demand for housing, it said, repeating its recent assessment.
Macklem told reporters that the net impact of Canada’s high pace of immigration is neutral to inflation.
Canadian employment surged by 59,900 in June, beating expectations and all coming from full-time jobs, while average hourly wages rose 4.2% on the year, slowing sharply from a 5.1% rise in May.
The unemployment rate rose to 5.4% in June from 5.2% in May as more people looked for work, rising further from 5.0% seen in the previous five months and a recent low of 4.9% recorded in June and July 2022.
BOC Revises Up 2023 GDP Forecast, Revises Down 2024 Projection Slightly
The bank projected that the growth rate will remain solid at 1.5% in July-September. The GDP was flat on the month in April but Statistics Canada’s advance estimate for May is a 0.4% jump, led by growth in the manufacturing and wholesale trade sectors as well as offices of real estate agents and brokers.
For the whole year, the bank raised its 2023 GDP growth forecast to 1.8% from 1.4% projected in April while revising down its 2024 growth forecast slightly to 1.2% from 1.3%. The bank forecast Canada’s economic growth will pick up to 2.4% in 2025, revised down slightly from its first estimate of 2.5% made three months ago.
BOC Expects Inflation to Return to Target in 2025, Delayed from Previous Forecast of 2024
“CPI inflation is forecast to remain about 3% for the next year, before declining gradually to the 2% target in the middle of 2025,” Macklem said. “This is about six months later than we expected in April.”
The bank’s latest consumer inflation outlook for 2023 is 3.7%, up from 3.5% projected in April. 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 would drift down to 2.5% but still above its 2% target and revised up from 2.3% forecast in April. The bank’s CPI estimate for 2025 is 2.1%, unchanged from 2.1% projected three months ago.
The downward momentum in inflation is slowing, largely because demand in Canada continues to outpace supply, the bank said in the July MPR.
“Household spending has been robust, supported by strong demand for labour, population growth and accumulated household savings,” it said. “Housing resales and house prices have picked up. At the same time, business investment is softening. Labour market conditions remain tight but appear to be easing.”
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Contact this reporter: max@macenews.com
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