Hike rates

The job is not done: the Bank of Canada will raise rates again

Another significant 75 basis point hike in the overnight rate is what we expect from the Bank of Canada next week. This would bring the rate to a restrictive level of 3.25%, just above the 2% to 3% range that the central bank deems “neutral” (the rate at which interest rates do not add or evade long-term economic growth trends). And the bank’s commitment to anticipated loading rate hikes in the face of searing inflation means an even bigger 100 basis point increase (matching the July hike) cannot be ruled out.

Data releases since the bank’s July meeting have shown marginal improvements. According to the Canadian Federation of Independent Business, headline inflation appears to have finally peaked, as have average company salary and price plans. Global commodity prices have recovered and supply chain pressures have steadily eased, signaling further moderation in inflation trends in the months ahead. Home resale markets have also cooled rapidly, following previous rate hikes and rising mortgage borrowing costs.

But at this point, further easing in household demand is still needed to bring inflation back to the bank’s 2% target rate. Labor market conditions are still exceptionally tight, even with weaker employment figures in recent months and an expected rise in the unemployment rate in August labor market figures next week. If household demand and inflationary pressures ease as expected, the bank may be able to end its tightening cycle soon. Still, we expect policymakers to maintain a tightening bias beyond September and follow up with an additional 25 basis point hike in October, taking the overnight rate to 3.5%.

Monitoring data for the coming week:

We expect employment in Canada to increase by 5,000 jobs in August. This would follow two consecutive monthly declines. These recent slow developments stem almost entirely from a lack of available workers, not from weakening demand. At over a million in June, vacancies were still well above pre-pandemic levels. We expect the unemployment rate to rise to 5.0% (which is still very low).

Canada’s merchandise trade surplus likely narrowed in July after jumping to $5 billion in June. A 12% decline in oil prices will reduce the energy trade surplus.