Understanding the Bank of Canada’s Decision to Maintain the Overnight Rate at 5%

Amidst the latest GDP data and unemployment rate updates, which point to a decelerating Canadian economy, the Bank of Canada has made a significant announcement. In this blog, we’ll dissect the Bank of Canada’s press release, delving into their rationale behind this decision.

Bank of Canada Holds Overnight Rate Steady at 5%

So, as mentioned above, the Bank of Canada just announced that they are holding the overnight rate steady at 5%. This announcement came just after the GDP data and unemployment numbers came out suggesting that our economy is slowing, which was definitely taken into account by the Bank of Canada when making their decision.

Economic Slowdown and Rate Hikes

“The Canadian economy has entered a period of weaker growth, which is needed to relieve price pressures. Economic growth slowed sharply in the second quarter of 2023, with output contracting by 0.2% at an annualized rate.“

– Bank of Canada

As indicated by the recent report indicating a 0.2% deceleration in GDP growth, it becomes evident that our economy is undergoing a slowdown. This aligns precisely with the Bank of Canada’s intent behind the previous rate hikes.

Inflation and Price Stability

“Recent CPI data indicate that inflationary pressures remain broad-based. After easing to 2.8% in June, CPI inflation moved up to 3.3% in July, averaging close to 3% in line with the Bank’s projection. With the recent increase in gasoline prices, CPI inflation is expected to be higher in the near term before easing again. Year-over-year and three-month measures of core inflation are now both running at about 3.5%, indicating there has been little recent downward momentum in underlying inflation. The longer high inflation persists, the greater the risk that elevated inflation becomes entrenched, making it more difficult to restore price stability.“

– Bank of Canada

We did see the CPI drop to 2.8% in June, but it has increased up again to 3.3% in July. The goal behind these BOC rate increases is to get inflation between that 1-3% range. The BOC also mentioned that the longer high inflation persists, the greater the risk that it becomes the new norm in our economy making it even more difficult to restore price stability. So the BOC is walking a fine line between pushing our economy into a recession and on the other end, inflation becoming entrenched in our economy.

Cautious Approach and Data-Driven Decision-Making

“With recent evidence that excess demand in the economy is easing, and given the lagged effects of monetary policy, Governing Council decided to hold the policy interest rate at 5% and continue to normalize the Bank’s balance sheet. However, Governing Council remains concerned about the persistence of underlying inflationary pressures, and is prepared to increase the policy interest rate further if needed. Governing Council will continue to assess the dynamics of core inflation and the outlook for CPI inflation. In particular, we will be evaluating whether the evolution of excess demand, inflation expectations, wage growth and corporate pricing behavior are consistent with achieving the 2% inflation target. The Bank remains resolute in its commitment to restoring price stability for Canadians.“

– Bank of Canada

The recent signs of our economy slowing down, along with the unemployment rate rising, indicate a shift towards economic stability. This trend is expected to continue as demand in our economy decreases and unemployment rises. However, the Bank of Canada (BOC) remains cautious due to concerns about underlying inflationary factors. This suggests that the BOC isn’t ruling out the possibility of raising interest rates in the future to counter potential inflationary pressures.

Data-Driven Decision-Making Continues

To navigate this economic situation, the BOC emphasizes a data-driven approach. They will thoroughly evaluate economic indicators and trends before making any policy decisions. The central bank’s commitment to closely monitor core inflation, inflation expectations, wage growth, and corporate pricing behavior underscores their dedication to achieving their 2% inflation target. While they acknowledge the easing demand, they stay alert and ready to take action if necessary to maintain price stability for the benefit of Canadians. This approach ensures that their decisions are grounded in a comprehensive assessment of economic factors, allowing for well-informed and structured choices moving forward.

The next scheduled date for announcing the overnight rate target is October 25, 2023. Keep an eye out for that, as I’ll be making another update blog to keep everyone in the loop.

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Rasha Ingratta, Mortgage Intelligence.