Hike rates

Bank of Canada will have more leeway to raise rates as US Fed turns hawkish: RBC

Canada’s largest bank is now seeing the US raise interest rates, and that’s a big boon for rate hikes in Canada. RBC Senior economist Josh Nye said the bank expects US rates to rise by next year. The hike will allow the Bank of Canada (BoC) to raise rates without a significant appreciation of the loonie. This was an earlier concern, which could have affected the country’s export economy. Now that the US is eyeing a hike, that makes Canada’s even more likely.

Bank of Canada to further cut QE and raise interest rates twice by next year

Canada’s largest bank sees the BoC further reduce its QE asset purchases this month. Purchases are expected to fall to $2 billion per week by the end of the month, from $3 billion currently. This alone should help corporate borrowing costs as excess liquidity is eliminated.

Additionally, RBC sees the Bank of Canada raising the overnight rate twice in the second half of next year. With the United States accelerating its own hike, this gives Canada even more reason to raise rates. “The [US] The Fed’s turn is seen as giving the Bank of Canada more room to raise rates without triggering a significant appreciation of the Canadian dollar,” he said.

Rising interest rates in Canada have already raised concerns about the impact on exports

Part of the concern over the Bank of Canada rate hike was that the loonie was too strong. Canada depends on a relatively weak currency to make its exports more attractive. Moreover, it also gives foreign companies cheap labor, especially in the technology industry.

If Canada raises rates without the US, it could see appreciation against the dollar. A higher loonie would be a drag on exports, and potentially close supply. Concerns that a hike would be counterproductive have arisen. That should be less of a concern now, as the United States prepares to tighten the monetary system.

US Federal Reserve forecasts rate hike by next year

The US Federal Reserve has revised its growth and inflation forecasts for 2021 upwards. RBC notes the recent shift in tone at the central bank meeting from “dovish” to “hawkish”. That is to say, they were in favor of low rates for a long time, due to a weak economy. Now they are expressing concerns about rates being too low, as the economy is doing much better now.

“The most significant development was a change in the plot with a majority of [FOMC] participants who now expect at least two rate hikes to be appropriate by the end of 2023,” Nye said.

The economist, however, sees the first rate hike occurring before that. RBC moved the Fed hike forecast to the fourth quarter of next year, ahead of general expectations. They are now watching for the decrease in asset purchases, which they see happening by the end of the year.

A rise in the United States’ share would allow the BoC to rise, with much less pressure on the exchange rate. If Canada were to rise on its own, it would slow credit growth and inflation, but could also affect exports. If both countries did so at the same time, the appreciation of the loonie against the US dollar would be minimal. This gives the BoC a bit more headroom to make the next raise more comfortable…or raise even more if necessary.

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