Notes From The Desk: Bank of Canada – Reading The Tea Leaves.
“We are drawing closer to the end, but we are not there yet”
Tiff Macklem
The Bank of Canada (BoC) surprised markets by delivering a 50 bps hike rather than the expected 75 bps, bringing the overnight rate to 3.75%. Bond markets have cheered the move as yields are lower by ~ 25 bps.
Inflation remains front and centre, with two-thirds of items in the CPI basket rising over 5%. While there are clear signs of slowing demand for housing and big-ticket items, Canadians continue to spend freely on services. Higher interest rates are having some impact, however, the full effect will be felt over time as more and more homeowners renew mortgages.
The BoC believes that growth will be on either side of zero in the first half of 2023 (technical recession perhaps), but will likely recover slightly later in the year. Inflation is expected to be 7% in Q4, falling to 3% at the end of 2023, and then down to 2% by the end of 2024.
The important takeaways:
- The BoC is probably one or two hikes away from pausing, where the likely terminal rate is 4.25%.
- The forecast for lower growth and inflation will have investors considering the possibility of rate cuts later next year.
- A more cautious BoC dims the prospect of a deep recession, which bodes well for credit markets.
- Overall, we see today’s developments as positive for fixed-income investors.
