Bank of Canada holds key rate steady, first major central bank to pause hikes

The Bank of Canada declined to hike its benchmark rate for the first time in a year

Alicja Siekierska
Wed, March 8, 2023 



Bank of Canada Governor Tiff Macklem said at a press conference in January that pausing rate hikes was “conditional on economic developments coming out in line with our forecasts.

The Bank of Canada hit pause on Wednesday for the first time in a year, opting to hold its benchmark interest rate at 4.5 per cent as it assesses the impact of its aggressive tightening cycle.

The highly anticipated move makes the Bank of Canada the first major central bank to pause interest rate hikes. It also follows through on the bank’s previous signal that it was ready to pause its current tightening cycle, one that included eight consecutive rate hikes in an effort to tame soaring inflation.

"Overall, the latest data remains in line with the Bank’s expectation that CPI inflation will come down to around 3 per cent in the middle of this year," the Bank of Canada said in a statement released alongside the rate decision.

"Governing Council will continue to assess economic developments and the impact of past interest rate increases, and is prepared to increase the policy rate further if needed to return inflation to the 2 per cent target."

Wednesday’s decision was expected by economists and markets, according to Bloomberg.

While the most recent Labour Force Survey showed the Canadian job market remains strong, GDP growth has stalled and inflation has decelerated from its June 2022 highs, falling to 5.9 per cent in January. The Bank noted that "the labour market remains very tight", but also said pressures in product and labour markets should ease amid weak economic growth for the next couple quarters.

"This should moderate wage growth and also increase competitive pressures, making it more difficult for businesses to pass on higher costs to consumers," the central bank said.

Bank of Canada Governor Tiff Macklem said at a press conference in January that pausing rate hikes was “conditional on economic developments coming out in line with our forecasts.” The central bank reiterated that pledge to pause on Wednesday, saying it was conditional on economic developments evolving in line with its outlook.

"Clearly, the Bank wants to keep its options open if inflation doesn't go their way and/or if the job market continues to sizzle," BMO Capital Markets chief economist Douglas Porter wrote in a research note on Wednesday.

"The (Bank of Canada) will now be data dependent, and if the recent strong momentum persists, look for the tone to toughen in the coming weeks."

CIBC Economics managing director Avery Shenfeld said in a research note released on Wednesday that "the Bank of Canada needs a clearer picture on growth and inflation prospects to decide if it needs to hike again or more definitively set aside that prospect."

"With so little time since it initiated its conditional pause, it simply doesn't have enough data to provide that clarity," Shenfeld wrote.

On Tuesday, traders were pricing in 80 per cent change of another quarter percentage point hike at some point in 2023. That's due in part to a rebound in economic activity and a resurgence in inflationary pressures elsewhere, including the United States.

The pause by the Bank of Canada puts it on a diverging path from its U.S. counterpart. U.S. Federal Reserve chairman Jerome Powell told lawmakers this week that rates will likely have to go higher than previously anticipated.

"The Bank of Canada’s conditional commitment to keep rates on hold will place a magnifying glass on the divergence in monetary policy with the U.S. Federal Reserve," Desjardins managing director and head of macro strategy Royce Mendes wrote in a research note on Wednesday.

Still, he added that "given the sharp repricing in expectations over the past few weeks, the relatively neutral language in the statement is seeing markets marginally reduce bets for further rate increases."

With files from Bloomberg.

Alicja Siekierska is a senior reporter at Yahoo Finance Canada. Follow her on Twitter @alicjawithaj.


Bank of Canada and Fed head for historic divergence, in a blow to loonie


 Fed Chair Jerome Powell speaks at The Economic Club of Washington

Thu, March 9, 2023
By Fergal Smith

TORONTO (Reuters) - As the Bank of Canada pauses its interest rate hikes, investors are betting that the sensitivity of Canada's economy to higher borrowing costs will result in a historically large gap between the tightening campaigns of the BoC and the U.S. Federal Reserve.

Analysts have long argued that Canada's economy is more sensitive to interest rate hikes than the U.S. economy, pointing to the higher debt loads of Canadians after they participated in a red-hot housing market in recent years and the shorter Canadian mortgage cycle.

But now some major economic data has given substance to that view and supports the market's recent move to price in a wider gap between the end points for interest rate hikes in Canada and the United States, say analysts.

Canadian inflation slowed more than expected to 5.9% in January and gross domestic product was flat in the fourth quarter, held back by weakness in the interest rate-sensitive parts of the economy, including housing investment as well as business spending on machinery and equipment.

A lower expected peak for Canadian rates has pressured the Canadian dollar against its U.S. counterpart. The currency hit a four-month low on Wednesday at 1.3815, or 72.39 U.S. cents, after the BoC left its benchmark interest rate on hold at 4.50%, becoming the first major central bank to suspend its tightening campaign.

A weaker currency could drive up the cost of imported goods for Canadians, adding to inflation pressures.

"The Canadian economy is just far more sensitive to interest rates because of factors like the crazy amount of debt-to-income that we've got, because of our overheated housing market," said Jay Zhao-Murray, a market analyst at Monex Canada Inc. "The transmission channels of monetary policy are more effective in Canada than in the U.S."

Contrasting with the BoC, Fed Chair Jerome Powell delivered a message this week of higher and potentially faster rate hikes.

Money markets expect the BoC's policy rate to peak at about 4.75% this year, or roughly 90 basis points below the expected end point of the Fed.

Canadian rates have peaked below U.S. rates in the three major tightening cycles since the start of the millennium, with the gap ranging between 50 and 75 basis points.

"Poring over the national accounts, it's increasingly clear that interest-sensitive demand has wilted in Canada," Warren Lovely and Taylor Schleich, strategists at National Bank of Canada, said in a note after the recent GDP data.

Their work shows that interest rate-sensitive demand in Canada's economy was 26% of final domestic demand at the start of the current rate hike cycle, one of the highest shares on record, compared with 21% for the United States.

Still, there could be a limit to how much interest-rate divergence the BoC will allow, say analysts. Last October, Governor Tiff Macklem warned that the bank might tighten more aggressively in response to a weaker currency after the loonie hit a two-year low of 1.3977.

"If the spread diverges any further there is going to be further depreciation of the Canadian dollar and that will feed in to eventually inflation in this country," said Royce Mendes, head of macro strategy at Desjardins.

(Reporting by Fergal Smith in Toronto; Editing by Matthew Lewis)