The Bank of Canada’s language on rates has tightened dramatically in the last several months. It was not long ago that BOC Governor Maklem was saying that rates would stay ultra low for many years to come – this to support the economy that was battered by COVID-19. His language has changed since re-opening has intensified and since economic activity and inflation have picked up. Now we’re hearing that rates will likely go up in 2022, and we’re all aware of the inflation figures which are close to 4%. The language from the Federal Reserve is even more hawkish, suggesting a hike could come soon given unprecedented U.S. spending and money printing and inflation – albeit tapered with plenty of talk of stimulus, bond buying, REPO market support, etc. Will the BOC raise its rates early, or earlier than the Fed? That’s a big question.
The BOC is increasingly pointing to rate hikes in the second half of 2022, and the Fed, while adamant that rates will only go up in 2023, has few in the market fully convinced, especially if high inflation numbers hold. More and more U.S. banks are releasing reports and warning their clients that the ‘transitory’ nature of inflation is under-reporting the reality of the situation. In other words, it won’t be a blip, but it’ll stay with us longer than we’re being told. In an interview with the Financial Post, CIBC Deputy Chief Economic Benjamin Tal suggested that the BOC and Fed would coordinate a joint rate hike in the second half of 2022, especially if inflation pressures keep up. Tal also made the point that the Canadian government is more vulnerable to a rate hike than the U.S. government, and that private debt in Canada has continued to grow in the last several years even as U.S. consumers slightly paid down their credit cards.
Another striking point made by Tal was that the effect of a rate hike would be more pronounced in Canada today than it would be in the past, given our greater dependence on debt: “Our estimate is that a 1% increase in rates today would be equivalent to a 2% increase ten years ago, so the effectiveness of monetary policy is crucial.” Tal’s worry is that the BOC waits too long to raise rates, or increases them too quickly, suggesting that such a move would be very risky for the market, the economy, and government finances. On a positive note, Tal is bullish on the second half of 2021, agreeing that the economy will see strong growth (some 6%) because of increased consumption and a post-lockdown boom.