In a move that reflects the challenges facing both the global and Canadian economies, the Bank of Canada has decided to maintain its policy rate, holding the overnight rate at 5%, the Bank Rate at 5¼%, and the deposit rate at 5%. This decision is coupled with the continuation of the bank’s policy of quantitative tightening, indicating a cautious approach to economic management in the face of evolving global conditions.
The global economy is displaying signs of continued slowdown, with inflation easing further. The United States, a significant trade partner for Canada, has experienced stronger-than-expected growth, driven by robust consumer spending. However, the Bank of Canada anticipates a weakening of the U.S. economy in the coming months as past policy rate increases have a ripple effect. Meanwhile, the euro area has witnessed weakened growth, coupled with lower energy prices, which has mitigated inflationary pressures globally.
Oil prices, a vital factor for the Canadian economy, are notably $10-per-barrel lower than assumed in the October Monetary Policy Report, presenting a challenge for an energy-dependent nation like Canada. On a positive note, financial conditions have eased, with long-term interest rates retracting from the sharp increases observed earlier in the autumn. Additionally, the weakening of the U.S. dollar against most currencies, including the Canadian dollar, provides some relief for Canadian exporters.
Turning our attention to the Canadian context, the economic narrative reveals concerning trends. Economic growth stagnated through the middle quarters of 2023, with real GDP contracting at a rate of 1.1% in the third quarter after a modest 1.4% growth in the second quarter. Higher interest rates are undeniably acting as a restraint on spending, evident in the near-zero growth in consumption over the last two quarters. Business investment has been volatile but essentially flat over the past year.
Exports and inventory adjustments subtracted from GDP growth in the third quarter, while government spending and new home construction provided a boost. The labor market, once a stronghold, is showing signs of strain: job creation is slower than labor force growth, job vacancies have decreased, and the unemployment rate has seen a modest increase. Despite these challenges, wages continue to rise by 4-5%, reflecting a tight labor market.
The economic slowdown is having a palpable impact on inflationary pressures in Canada. A broader range of goods and services prices is experiencing a slowdown, contributing to a decrease in the Consumer Price Index (CPI) inflation to 3.1% in October. Shelter price inflation, however, has picked up, driven by accelerated growth in rent and other housing costs, along with the persistent contribution from elevated mortgage interest costs.
The Bank’s preferred measures of core inflation have been hovering around 3½-4%, with the October data toward the lower end of this range. This suggests that while inflationary pressures are easing in certain sectors, there is still cause for concern.
Despite signs that monetary policy is having the desired effect of moderating spending and alleviating price pressures, Governing Council’s decision to maintain the policy rate raises questions. The Bank acknowledges the economic slowdown and easing inflation but continues with quantitative tightening. This might be seen as a contradiction as the economy faces headwinds and businesses grapple with challenges.
Governing Council remains concerned about risks to the inflation outlook and is ready to raise the policy rate further if necessary. The focus on sustained easing in core inflation, alongside considerations of the balance between demand and supply, inflation expectations, wage growth, and corporate pricing behavior, underscores the complexity of the economic landscape.
As the Bank of Canada remains resolute in its commitment to restoring price stability for Canadians, the challenges ahead are clear. Striking the right balance between stimulating economic growth and preventing runaway inflation will require a delicate touch. Canadians should closely monitor how these monetary policies unfold, as they have direct implications for our daily lives, from the cost of living to employment opportunities.
Is the January 24, 2024 release the sequel we’ve all been waiting for? Will it spill the beans on the economy and inflation, unraveling the suspenseful plot of the Bank’s strategy in navigating the economic rollercoaster? Get your popcorn ready and stay tuned for the twists and turns!