By Max Sato
(MaceNews) – The Bank of Canada is widely expected to hold interest rates steady in Wednesday’s policy announcement in light of weak business survey results and slightly easing price pressures, but given some resilience in the labor market and the uncertain inflation outlook, the bank may not be done with tightening that began in March last year.
Sentiment among companies in Canada declined for the seventh straight quarter in July-September as the “widespread” slowdown in demand and elevated inflation is reducing capacity pressures and weighing on corporate plans for investment and employment, the Bank of Canada’s quarterly Business Outlook Survey released last week showed.
The survey also showed firms’ inflation expectations edged down but remain higher than they were before the pandemic. “Most firms think inflation will return to 2% in the long term, but uncertainty about when this will happen has increased,” the bank warned. “Roughly one-third of firms still believe it could take longer than three years before inflation returns to the bank’s 2% target.”
When it comes to bringing inflation back to the inflation-control target range of 1% to 3%, “an increasing share of businesses are confident” that the bank should be able to do so “within in the next one to two years.”
The latest data showed total consumer inflation rate eased to 3.8% in September after accelerating to 4.0% in August from 3.3% in July. It has drifted down from the recent peak of 8.1% reached in June 2022, it is still well above the bank’s 2% target.
Two of the BOC’s core inflation measures have eased only slightly. The year-over-year increase in the CPI trim decelerated to 3.7% in September from 3.9% in August, when it accelerated from 3.6% in July. The annual rate of the CPI median also slowed to 3.8% after rising to 4.1% in August from 3.9% in July. Those measures strip out whatever is volatile at the time.
Douglas Porter, chief economist at BMO Financial Group, said that a combination of a very weak Q3 Business Outlook Survey and a welcome drop in CPI inflation below 4% made this week’s policy decision by the BOC “much more straightforward.”
“We continue to believe 5% rates are plenty restrictive, and that, yes, the global run-up in bond yields will do a lot of the tightening work for central banks,” he wrote in a report published Friday. Canadian long-term bond yields are below those in the U.S., but the level around 4% is still well above 2% seen prior to and during the pandemic, he noted.
Governor Tiff Macklem told reporters a day after the September rate announcement that the bank’s policy decisions were becoming difficult. “We know Canadians are feeling the pain of higher interest rates but the target is in sight,” he said. “The destination (the 2% inflation target) is worth it and we need to stay the course.”
Last month, the bank maintained its policy interest rate — the target for overnight lending rates — at a 22-year high of 5.0% after two consecutive rate hikes, in the wake of weak second quarter GDP data. But Governing Council said it “remains concerned about the persistence of underlying inflationary pressures, and is prepared to increase the policy interest rate further if needed.” It is closely monitoring the evolution of excess demand, inflation expectations, wage growth and corporate pricing behavior.
In its Sept. 6 policy statement, the bank said, “The tightness in the labour market has continued to ease gradually. However, wage growth has remained around 4% to 5%.”
The latest data released this month indicated that Canada’s labor market is resilient after showing some signs of slowing. Employment surged by an above-forecast 63,800 on the month in September, following a 39,900 rise in August and a 6,400 fall in July, although the September gain was led by part-time jobs and all of the growth came from a rebound in the education sector. The unemployment rate was steady at 5.5% after rising to the level in July from 5.4% in June.
The year-on-year increase in average hourly wages picked up to 5.0% in September after easing slightly to 4.9% in August from 5.0% in July.
The BOC will also release the quarterly Monetary Policy Report on Wednesday to provide its latest growth and inflation outlook as well as risk analysis. In July, the bank raised its inflation forecast for 2023 to 3.7% from 3.5% projected in April and revised up its 2024 CPI forecast to 2.5% from 2.3%. It forecast that inflation should decline gradually to the 2% target in the middle of 2025, which is about six months later than expected in April.
The bank’s latest forecast made in July is that Canada’s GDP will grow 1.8% this year before slowing to 1.2% next year and picking up to 2.4% in 2025.
In the July report, the bank forecast that Canada’s GDP would grow at an annualized pace of 1.5% in April-June on resilient consumer spending, and that solid growth would continue at 1.5% in July-September.
But the latest GDP data showed that the Canadian economy unexpectedly contracted in the April-June quarter, being flat (-0.0%) on quarter, or dipping an annualized 0.2%, following solid 0.6% growth (2.6% annualized) in January-March. Household spending was sluggish, growing just 0.1% on quarter (0.2% annualized) after surging 1.2% (4.7% annualized) in the previous quarter. It was also due to a decline in housing activity and the drag from wildfires in many regions of the country.