OTTAWA — Economists predict the Bank of Canada will hike interest rates by three-quarters of a point on Wednesday as inflation continues to rage around the world.
In Canada, inflation hit a 39-year high of 7.7 percent in May – well above the 2 percent target that central banks normally aim for.
The Bank of Canada raised its key interest rate by half a percentage point to 1.5 percent on June 1st. Since then, it has signaled a willingness to move in a more aggressive direction.
“We may need to take further interest rate moves to bring inflation back to target levels. Or we need to act faster, we need to take a bigger step,” Gov. Tiff Macklem said at a June 9 news conference.
Most economists are now forecasting a rate hike of three-quarters of a percentage point after the US Federal Reserve raised interest rates by that amount last month.
“With the economy essentially at full employment, wages starting to move significantly and headline inflation set to test 8 percent in this month’s CPI report, the Bank of Canada’s role in next week’s decision is clear,” wrote BMO Chief Economist Douglas Porter in a weekly report on Friday.
The CD Howe Institute’s Monetary Policy Council, a group of economists who assess the Bank of Canada’s monetary policy, has also asked the bank to raise interest rates by three-quarters of a percentage point.
But high inflation is far from an exclusively Canadian phenomenon. Inflation in the United States hit a record high of 8.6 percent in May, while in the United Kingdom it hit the highest rate among G7 countries at 9.1 percent.
The Bank of Canada has identified both domestic and international factors leading to rising inflation. Domestically, there is excess demand in the economy, according to the bank, while global supply chain problems and the war in Ukraine continue to push prices higher.
HSBC chief economist David Watt said the Bank of Canada can bring down inflation driven by domestic factors, but when it comes to global factors like oil prices, the bank is in a more difficult position.
“One of the issues we have when we talk about central banks is whether global inflation is going to stay high, whether they have a mandate to bring inflation back below three to two percent, and international inflation not if they cooperate do they have to cause significant downturns in the domestic economy?”
Stephen Gordon, an economics professor at Laval University, said the main reason for a bigger rate hike is to contain inflationary expectations.
“If the bank is up more than 50 basis points, I think they want to make sure expectations don’t get too high,” Gordon said.
The Bank of Canada’s latest Business Outlook Survey showed that Canadians believe inflation will remain higher than previously expected — and will be for a while. According to the survey, Canadians expect inflation to be four percent in five years.
Economists worry when people and businesses start expecting high inflation, as expectations affect future pricing of goods and services and wage negotiations.
However, a recent report by the Canadian Center for Policy Alternatives warned that rapidly rising interest rates could likely plunge Canada’s economy into recession and cause significant “collateral damage”, including the loss of 850,000 jobs.
But Gordon said a rate hike of more than half a percentage point was warranted, adding that fears of a recession were premature.
“I don’t think we’re getting any closer to that risk because interest rates are still low and the economy is doing really well,” Gordon said.
On Friday, Statistics Canada said the unemployment rate fell to a record low of 4.9 percent in June, signaling a strong labor market.
As the bank tries to curb inflation, it’s hoping for a so-called “soft landing,” where inflation is brought under control without triggering a recession.
Both Gordon and Watt said that while the bank doesn’t want to push the economy into a recession, that could be the price to pay to bring down inflation.
“I don’t think they would like to do it, but if unwinding inflation ultimately required a recession, I think they would be ready for that now,” Watt said.
This report from The Canadian Press was first published on June 10, 2022.