Bank Of Canada Raises Interest Rate For First Time Since January, Now 4.75%

Source: Bank of Canada

In a recent announcement, the Bank of Canada has decided to increase its target for the overnight rate by 25 basis points, bringing it to 4¾%. The Bank Rate now stands at 5%, while the deposit rate is at 4¾%. Additionally, the Bank will continue its policy of quantitative tightening.

On a global scale, consumer price inflation is gradually decreasing due to lower energy prices compared to the previous year. However, underlying inflation remains stubbornly high. Major central banks worldwide are signaling the need for further interest rate hikes to restore price stability as economic growth softens in response to higher interest rates. The United States is experiencing a slowdown in its economy, although consumer spending remains unexpectedly resilient, and the labor market remains tight. Economic growth in Europe has essentially stalled, but core prices continue to rise. China’s growth is expected to decelerate after a surge in the first quarter. Financial conditions have tightened to levels similar to those observed before the bank failures in the United States and Switzerland.

The Canadian economy outperformed expectations in the first quarter of 2023, with a GDP growth rate of 3.1%. Consumption growth was surprisingly strong and well-diversified, even when accounting for population gains. The demand for services continued to rebound, and there was an increase in spending on interest-sensitive goods. Moreover, the housing market has shown recent signs of activity. While the labor market remains tight, the influx of new workers due to higher immigration and participation rates has been swiftly absorbed, indicating ongoing robust demand for labor. Overall, there is a more persistent excess demand in the economy than previously anticipated.

Consumer price index (CPI) inflation rose to 4.4% in April, marking the first increase in 10 months. Prices for various goods and services exceeded expectations. Despite lower energy costs, goods price inflation increased, while services price inflation remained high due to strong demand and a tight labor market. The Bank anticipates that CPI inflation will ease to around 3% in the summer as lower energy prices take effect and the significant price gains from the previous year no longer factor into the yearly data. However, concerns have risen regarding the potential for CPI inflation to remain significantly above the 2% target, as three-month measures of core inflation have consistently ranged from 3½% to 4% for several months, coupled with the persistence of excess demand.

Based on the accumulated evidence, the Governing Council has made the decision to raise the policy interest rate. This action reflects their belief that the existing monetary policy was not sufficiently restrictive to restore supply and demand equilibrium and achieve sustainable inflation in line with the 2% target. The Bank’s quantitative tightening policy is working in conjunction with the restrictive monetary stance to normalize its balance sheet. The Governing Council will continue to assess the dynamics of core inflation and the outlook for CPI inflation, paying particular attention to factors such as excess demand, inflation expectations, wage growth, and corporate pricing behavior. Their goal remains steadfast in restoring price stability for the benefit of Canadians.

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