Bank of Canada Faces Pressure to Cut Interest Rates as Inflation Drops Sharply

Strategic Insights -

The Bank of Canada is expected to cut interest rates on Wednesday, but the question is how much. The market is forecasting a jumbo 0.5-percentage-point move, which would not be unprecedented in Canadian history. However, some experts argue that the central bank has been going too slow, and a bigger cut is warranted. With inflation already below the Bank of Canada's target range, economists point out that the country is at risk of deflation and that consumers and businesses believe inflation is dead. Furthermore, the economy is weak, with economic growth below the Bank of Canada's estimates and home sales down sharply due to higher interest rates and poor affordability.

Key Takeaways:

  • The Bank of Canada has been slow to cut interest rates, despite inflation being below the target range, with headline inflation at 1.6% in September and core inflation likely to follow soon.
  • Housing inflation is the only major component of the Consumer Price Index (CPI) putting upward pressure on overall inflation, and this is artificially propped up by mortgage interest costs still growing by double digits.
  • Rent growth is easing, with real estate data companies reporting a significant cooling in rent growth, and a growing inventory of condo rental listings and a surge of new purpose-built rental apartments expected to put further downward pressure on rental growth.
  • Inflation expectations have dropped sharply, with only 15% of respondents in the Bank of Canada's business outlook survey expecting inflation to be above 3% over the next two years, down from 84% in the fourth quarter of 2022.
  • The economy is weak, with economic growth below the Bank of Canada's estimates, and home sales down sharply due to higher interest rates and poor affordability.
  • Many homeowners are facing a significant increase in payments as their fixed-rate mortgages reset from rock-bottom levels, and variable-rate mortgage holders are still seeing their payments go higher owing to deferred interest charges.
  • The Bank of Canada should consider even bigger cuts than 0.5-percentage points to get interest rates back down to neutral levels faster, especially given the long lags with monetary policy.

Statistics:

  • Headline inflation was 1.6% in September, below the 2-per-cent midpoint of the Bank of Canada's target range.
  • Core inflation is likely to follow soon.
  • Housing inflation is the only major component of the CPI putting upward pressure on overall inflation, with mortgage interest costs still growing by double digits.
  • Rent growth is easing, with average asking apartment rent growing by 3% in the third quarter compared to the previous year.
  • Only 15% of respondents in the Bank of Canada's business outlook survey expect inflation to be above 3% over the next two years, down from 84% in the fourth quarter of 2022.
  • Economic growth for the third quarter was below the Bank of Canada's estimates.
  • Home sales are down sharply, with many homeowners facing a significant increase in payments as their fixed-rate mortgages reset from rock-bottom levels.

Sources:

  • "Bank of Canada set to cut interest rates on Wednesday, but by how much?" by Carl Gomez, published in the National Post.