Bank of Canada Keeps Rates At 5% As Expected, Drops Language On Rising Inflation Risks

The Bank of Canada kept its overnight lending rate at 5% for the third consecutive meeting - where it has been since mid-July and tied for the highest rate since April 2001 - in line with Wall Street estimates, and acknowledging a stalled economy while keeping the door open to further hikes as they watch for more progress on slowing inflation

Echoing similar dovish twists by other central banks, BOC officials said recent data suggest the economy is no longer in “excess demand” and their hiking campaign is dampening spending and price pressures. As a result, the statement dropped its October language about rising inflationary risks even as it reiterated that it was prepared to hike if needed.

“Governing council is still concerned about the risks to the outlook for inflation and remains prepared to raise the policy rate further if needed,” the bank said, adding that they want to see “further and sustained easing in core inflation.”

Here are some highlights from the statement:

Policy

• Governing Council is still concerned about risks to the outlook for inflation and remains prepared to raise the policy rate further if needed. Governing Council wants to see further and sustained easing in core inflation, and continues to focus on the balance between demand and supply in the economy, inflation expectations, wage growth, and corporate pricing behavior.

Economy

• Higher interest rates are clearly restraining spending: consumption growth in the last two quarters was close to zero, and business investment has been volatile but essentially flat over the past year. Exports and inventory adjustment subtracted from GDP growth in the third quarter, while government spending and new home construction provided a boost. The labour market continues to ease: job creation has been slower than labour force growth, job vacancies have declined further, and the unemployment rate has risen modestly. Even so, wages are still rising by 4-5%.
• Overall, these data and indicators for the fourth quarter suggest the economy is no longer in excess demand.
• Inflation
• Shelter price inflation has picked up, reflecting faster growth in rent and other housing costs along with the continued contribution from elevated mortgage interest costs.
• In recent months, the Bank's preferred measures of core inflation have been around 3!4-4%. with the October data coming in towards the lower end of this range.

The more neutral language in the statement suggests the BOC is increasingly confident interest rates are restrictive enough to bring inflation back to the 2% target, similar to their peers at the Fed and ECB. Still, officials will want to see more progress on core inflation, which strips out the effect of more volatile items, before declaring victory.

Before Wednesday’s decision, traders in overnight swaps were betting the bank would start cutting borrowing costs by the April meeting and lower the benchmark overnight rate to 4% by the end of 2024.

Canada’s economy has stalled and consumption is weak. The unemployment rate has risen to 5.8% from 5% in just seven months, a loosening of the labor market that typically coincides with recessions. Just six weeks ago, the bank said the labor market remained “on the tight side,” but acknowledged on Wednesday they see it loosening.

After temporarily reversing course due to rising gasoline costs, inflation decelerated to a 3.1% yearly pace in October. “The slowdown in the economy is reducing inflationary pressures in a broadening range of goods and services prices,” the bank said.

That said, prematurely declaring victory over inflation, only to have to restart rate hikes later, would be crushing to the central bank’s credibility. Headline inflation has been above the Bank of Canada’s 1% to 3% control range for 30 of the last 31 months — the worst record in the modern era of the central bank — and more than half of economists surveyed by Bloomberg say that has hurt the bank’s reputation.