The Bank of Canada held its monetary policy meeting last week on Wednesday. Amid a resilient economy, rising inflation and the recently lifted clouds of uncertainty over trade, the BoC was seen hiking interest rates in a widely expected move.
The central bank hiked rates by a quarter point for the fifth time since its rate hike cycle started in the summer of 2017. The benchmark interest rates were lifted to 1.75%. Interest rates in Canada have not been this high since December 2008, the year of the start of the global financial crisis.
October’s rate hike from the BoC comes after the central bank left interest rates unchanged in September. This was due to the looming uncertainty surrounding the trade negotiations with the United States.
The move comes after Canada agreed with the United States and Mexico earlier in October on an updated North American Free Trade Agreement or NAFTA, now called the USMCA (the U.S. Mexico and Canada agreement).
Acknowledging the development, the BoC stated the following:
“The new U.S.-Mexico-Canada Agreement (USMCA) will reduce trade policy uncertainty in North America, which has been an important curb on business confidence and investment.”
The Bank of Canada had, on many previous occasions, mentioned the risks of Canada not reaching the trade agreement deal with the United States. The removal of this uncertainty saw the Bank of Canada changing the wording in its monetary policy statement.
The central bank omitted the word “gradual” in its statement in regards to the central bank’s approach to future rate hikes. This change prompted market watchers to anticipate faster rate hikes in the future.
Regarding the economy, the BoC said that “the Canadian economy continues to operate close to its potential and the composition of growth is more balanced.”
The central bank forecasts that lingering tensions despite the USMCA could potentially lower investment declines in Canada by 0.7% by the end of 2020. This a revised estimate compared to the initial forecast of 1.4% decline in business investment.
The central bank also noted that the trade tariffs on steel and aluminum exports to the U.S. had also hit the overall exports. It expects that Canadian exports will be lower by 0.3% which is once again a slightly better view compared to the initial estimates of a 0.7% decline in exports.
The central bank said that more rate hikes would be needed to bring the BoC’s interest rates to a neutral level. This neutral level is seen as one which could contain the faster rise in inflation and keep it close to the BoC’s interest rate target of 2.0%.
The central bank indicates a neutral rate of 2.5% – 3.5% which further adds weight to the speculation that the BoC could push with a faster pace of interest rate hikes.
The BoC’s statement was, however, a bit cautious as it noted that the monetary policy decision would be based on the incoming economic data. The central bank acknowledged the risks of higher debt levels among Canadian households.
“As a result, household vulnerabilities are edging lower in a number of respects, although they remain elevated,” the statement said. Consumers in Canada were seen reining in their spending amid higher rates and rising inflation.
Consumer prices in Canada hit 2.7% during the third quarter of the year. However, recent data suggests that inflation is expected to ease back to 2.0% by summer of next year.
Despite the risks, the Bank of Canada said that it expects the Canadian economy to continue rising at a steady pace.