The best surprise is no surprise

That decades-old slogan from Holiday Inn seems lie the best way to summarize today's Bank of Canada rate decision.  Prompted by weeks of heavy hints from the Bank, markets had priced in a 50 basis point rate hike, and that is exactly what the Bank delivered, along with a continuation of its quantitative tightening program. The overnight rate target is now 1.5 percent, a scant 25 basis points below its pre-pandemic level.

Given that the immediate rate decision was no surprise to anyone, the interest in the Bank's media release centres mainly on any hints it may offer about what comes next. The answer: more rate hikes. It is very clear that for now, the Bank is a lot more concerned about above-target inflation than about any near-term deceleration in economic activity. 

Inflation globally and in Canada continues to rise, largely driven by higher prices for energy and food. In Canada, CPI inflation reached 6.8% for the month of April – well above the Bank’s forecast – and will likely move even higher in the near term before beginning to ease. As pervasive input price pressures feed through into consumer prices, inflation continues to broaden, with core measures of inflation ranging between 3.2% and 5.1%. Almost 70% of CPI categories now show inflation above 3%. The risk of elevated inflation becoming entrenched has risen. The Bank will use its monetary policy tools to return inflation to target and keep inflation expectations well anchored.

Canadian economic activity is strong and the economy is clearly operating in excess demand. National accounts data for the first quarter of 2022 showed GDP growth of 3.1 percent, in line with the Bank’s April Monetary Policy Report (MPR) projection. Job vacancies are elevated, companies are reporting widespread labour shortages, and wage growth has been picking up and broadening across sectors. Housing market activity is moderating from exceptionally high levels. With consumer spending in Canada remaining robust and exports anticipated to strengthen, growth in the second quarter is expected to be solid.

That all seems clear enough. It seems almost inevitable that the next Governing Council meeting, set for July 13, will bring another 50 basis point rate hike. The Bank will also release an updated Monetary Policy Report on that day, which should provide better insight into what lies ahead. A fourth 50 bp rate increase later in the year would bring the target rate to 2.5 percent, which would be in the range that the Bank regards as neutral; it seems unlikely that the tightening process would stop before that level is reached. For the avoidance of doubt, however, the Bank ended today's release by re-using a word that has become a major part of its lexicon in recent months:  Governing Council is prepared to act more forcefully if needed to meet its commitment to achieve the 2% inflation target. Best to assume they mean it.