As expected, the Bank of Canada left its policy rate unchanged at 1.5% at this week's Governing Council meeting. However, the tone and wording of the press release leave little room for doubt that the next increase will come in October, with further increases in the pipeline after that.
Despite the fact that headline CPI ticked up to 3 percent in July, the near term inflation outlook is of little concern for the Bank. As the press release points out, core measures of inflation remain close to the 2 percent target. The rise in the headline figure largely reflects a surge in retail fuel prices, an effect that the Bank expects to unwind in the next few months. In fact, the August CPI data, to be released on September 21, may well come in slightly lower than July's.
The economy is growing in line with the Bank's forecasts. GDP growth in Q2, at 2.9 percent, was lower than the Bay Street consensus but almost bang on the Bank's own projections. What is somewhat surprising is the source of that growth. In the face of rising trade tensions with the US, both business investment and exports have been increasing steadily. Merchandise trade data for July, released earlier this week, showed the smallest trade deficit in almost three years. This included the largest goods trade surplus with the United States for any month since 2008, although it is important to recall that the US runs an equally large surplus in its services dealings with Canada.
Not surprisingly, the Bank of Canada is watching the NAFTA negotiations closely as it assesses its policy stance. The July trade numbers showed a decline in exports to the US in categories already hit by Trump's tariffs, including aluminum and steel. If NAFTA negotiations fail and the US follows through on its threat to put tariffs on Canada's auto exports, the impact on trade and the entire economy would be very serious. For now, however, it seems close to certain that the Bank's next 25 bp rate hike will happen in October.
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