Bank of Canada Interest Rate Hike Likely First of Many, Say Analysts

Central bank raises benchmark interest rate to 0.5 percent from 0.25 percent

Bank of Canada Governor Tiff Macklem speaks at a press conference at the central bank in Ottawa on Dec. 15, 2021. The BoC raised its overnight rate target by half a percent on June 1, 2022. (The Canadian Press/Justin Tang)

The Bank of Canada’s modest rate increase on March 2 will do little to stem inflation, say analysts, who expect more rate hikes later this year.

The BoC’s increase of 0.25 percentage points to arrest increasing inflation brought the rate to 0.5 percent. The hike was widely expected by analysts, even though it’s earlier than the mid-2022 date the bank touted throughout 2021.

“As the economy continues to expand and inflation pressures remain elevated, the Governing Council expects interest rates will need to rise further,” according to the central bank’s March 2 press release announcing the rate hike.

Steve Ambler, a retired Université du Québec à Montréal economics professor, says it’s now plainly evident that higher inflation was not a passing “transitory” phenomenon.

“It’s just a gradual recognition or realization that people and the bank itself got their predictions all wrong in terms of how high inflation was going to go and how persistent it was going to turn out to be,” Ambler said in an interview.

Canada’s annual inflation rate dropped in April and May 2020 due to the pandemic, but it has roared far above the typical 3 percent ceiling since April 2021. The annual inflation rate in January 2022 was 5.1 percent, a 30-year high. The central bank expects the rate to remain at 5 percent the first half of the year and drop to approximately 3 percent by the end of the year.

The BoC has six more scheduled dates for interest rate announcements in 2022, the next being April 13. More hikes are expected on all or some of those dates, but speculations on how soon, how high, and for how long those increases will continue are “highly controversial,” Ambler says.

A Reuter’s poll of 25 economists conducted Feb. 17–23 showed unanimous belief that the bank would raise the rate by 0.25 percentage points to 0.5 percent on March 2, as it has done. Median forecasts indicated that the bank would raise the rate by another 0.5 percentage points to 1 percent by mid-year, followed by an additional 0.25 percentage points by the end of the year to reach a rate of 1.25 percent.

“That would be, to me, an indication of a pretty dovish Bank of Canada at this point because high inflation has started beating expectations,” Ambler said of the prediction.

‘Be Wise to Prepare’ for Higher Rates

In January, the Bank of Nova Scotia predicted that Canada would see 2 percent interest rates by the end of the year, the only analysis making such a high projection. C.D. Howe CEO William Robson predicts interest rate hikes will reach 3 percent in 2023 to catch up with inflation.

“Few forecasters and investors seem to expect an overnight rate above 2 percent, at least not until well into 2023. But Canadians would be wise to prepare for an overnight rate of 3 percent or more before long,” Robson wrote in a Feb. 28 briefing.

“If the Bank’s core measures are good indicators of inflation expectations, a zero real rate currently requires an overnight rate of 3 percent—more than most observers are expecting. If the CPI beats forecasts again in February, March and beyond, the eventual overnight rate could be higher still.”

Ambler says Canada will have to keep pace with rates at the U.S. Fed because a failure to do so would depreciate the Canadian dollar and make imports more expensive.

“If the Fed does do a 50 basis points [increase of 0.5 percentage points] two weeks after the Bank of Canada does 25 [increase of 0.25 percentage points], who knows, the Bank of Canada might wind up playing catch-up,” he said.

“My guess is that they [the Fed] were seriously considering a 50-basis-point increase, but the Ukraine situation has taken that off the table because of the increased uncertainty due to geopolitics.”

In its March 2 press release, the BoC pointed to Russia’s invasion of Ukraine as “a major new source of uncertainty.”

“Prices for oil and other commodities have risen sharply. This will add to inflation around the world, and negative impacts on confidence and new supply disruptions could weigh on global growth. Financial market volatility has increased.”

Macdonald-Laurier Institute senior fellow Philip Cross told The Epoch Times he already expected rate hikes “at every opportunity this year” prior to the invasion of Ukraine. He believes the effect on commodity prices and supply chains will drive already-high oil prices higher still, leaving modest rate hikes unable to stop the momentum.

“Are we so used to zero interest rates in this country that we think there’s going to be an impact from a quarter point increase? Are you kidding? It would take several quarter-point increases to have a measurable impact on things like the housing market, which is just ripping in this country,” he said.

“Very small initial interest rate hikes oftentimes in the past have led people to get off the fence and say, ‘Boy, I’d better buy now before rates go up even more.’ So this is not going to have much of a slowing impact on the economy.”

Western Canadian Select oil is at US$89.31 per barrel as of the morning of March 2, but Cross expects it to soar past US$100. He says Alberta’s expectations for a balanced budget this year show that the oil and gas “powerhouse” is increasingly driving the Canadian economy and suggests even high-end predictions for 2022 interest rate hikes are far too small.

“To me, 2 percent is ridiculous. A normal rate of interest is something like 3 to 4 percent. If we only go back to 2 percent, then we’re still keeping monetary policy loose. I’m really torn here between what I think should be done and what I think the Bank of Canada will do,” he said.

“The greater damage that can be done to the economy is from just sitting back and letting inflation rip. To my way of thinking, the more public pressure on inflation intensifies the more the Bank of Canada has to act.”

Correction: A previous version of this article misstated the amount by which the Bank of Canada increased the benchmark interest rate. The bank increased the rate by 0.25 percentage points. The Epoch Times regrets the error.