Inflation Concerns Push Mortgage Rates Higher, Hindering Short-Term Interest Rate Cuts

Market analysts say that inflation may prove to be the bigger concern, pushing mortgage rates higher and keeping the Bank of Canada's headline interest rate at the same level for the short term. The direction that mortgage rates go has depended on whether a sluggish economy or the return of inflation will have a bigger impact. The Bank of Canada's decision on interest rates has been influenced by these two factors, and May's economic reports have materialized these diverging forces. The federal jobs report showed a weaker-than-expected economy, with unemployment rising to 6.9 per cent in April, while inflation was hotter than expected, with core inflation remaining high at 2.9 per cent and grocery inflation at 3.8 per cent.

Key Takeaways:

• The Bank of Canada's policy is primarily focused on targeting inflation, which may lead to a higher mortgage rate in the short term.
• The market is pricing in only 30 per cent odds of a rate cut after the recent economic reports, down from roughly 50 per cent earlier in the week.
• Bank of Montreal chief economist Douglas Porter now expects only one or two rate cuts in 2025, meaning higher rates for variable-rate mortgage holders.
• Bond markets have reacted strongly to the inflation numbers, with the Government of Canada five-year bond yield climbing to three per cent and then settling closer to 2.9 per cent.
• An increase in U.S. bond yields in reaction to the Trump administration's budget bill has also pushed Canadian yields up.
• Long-term mortgage rates have seen modest upticks in the past month, with the lowest available five-year rate on Ratehub.ca rising from 3.64 per cent to 3.84 per cent.
• Monetary policy can't fight a trade war, but it can help the situation and may make the case for the Bank of Canada to cut rates to spur economic growth.
• The threat of a trade war, especially one with strong impacts on Canada's auto sector, could force the central bank to lower rates in the long term.

Statistics:

• Unemployment rose to 6.9 per cent in April.
• Core inflation remained high at 2.9 per cent.
• Grocery inflation was higher than expected at 3.8 per cent.
• The market is pricing in 30 per cent odds of a rate cut, down from 50 per cent earlier in the week.
• The Government of Canada five-year bond yield climbed to three per cent and then settled closer to 2.9 per cent.
• The lowest available five-year rate on Ratehub.ca rose from 3.64 per cent to 3.84 per cent.

Sources:

• Douglas Porter, Bank of Montreal chief economist, quoted in the article.
• David Larock, mortgage broker and owner at Integrated Mortgage Planners in Toronto, quoted in the article.
• Benjamin Tal, deputy chief economist of CIBC World Markets, quoted in the article.
• Ratehub.ca, cited for the lowest available five-year rate.