BoC recap: Rates raised, with another increase in prospect?

2.5% is the Bank of Canada’s (BoC) new overnight rate. The 25 basis points increase came with a warning that persistently high energy prices and greater pass-through of costs could prolong elevated inflation. A further increase may be necessary, Governor Tiff Macklem said, but the Governing Council remains cautious, with no predetermined policy path.

Preventing sustained energy costs from feeding more widely into goods and services prices prompted the BoC’s decision. Although businesses have absorbed most of the increase in input costs to date, the Bank’s surveys indicate that more will be passed on over the coming year. Inflation appears less likely to stay well contained, according to Macklem, though longer-term expectations are still anchored.

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Evidence of excess supply, alongside a softer housing market, made the decision more difficult. Even following the increase, Macklem said, the policy rate remained too low to restrain growth. Rogers, however, acknowledged that borrowing costs were already putting pressure on housing. Substantial uncertainty surrounding trade relations with the US and the broader economic outlook adds to the Bank’s challenges.

Taken together, the signals were hawkish yet restrained. Additional tightening is still a possibility should energy-led inflation spread or prove more persistent. Macklem nevertheless emphasised that rates are not on a preset course: the inflation outlook and incoming data will guide each decision.

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Bank of Canada: Its Role and Influence on the Canadian Dollar

From its base in Ottawa, the Bank of Canada (BoC) sets Canada’s interest rates and directs monetary policy. Decisions are taken at eight scheduled meetings each year, supplemented by emergency meetings when needed. Price stability is its primary mandate, defined as keeping inflation within 1-3%. Interest rate increases and cuts are the principal means of meeting that objective. Higher relative interest rates typically strengthen the Canadian Dollar (CAD), while lower rates tend to have the opposite effect. The BoC also uses quantitative easing and quantitative tightening.

Quantitative Easing (QE): How It Works and Its Impact on the Canadian Dollar

When conditions become extreme, the Bank of Canada may turn to Quantitative Easing (QE). Under this policy, the BoC prints Canadian Dollars to purchase assets from financial institutions, typically government or corporate bonds. The CAD usually weakens as a result. Reserved as a last resort, QE is used when interest rate cuts alone are unlikely to deliver price stability. During the Great Financial Crisis of 2009-11, the Bank of Canada deployed the measure after banks’ loss of confidence in one another’s ability to repay debts caused credit to freeze.

Quantitative Tightening (QT): How It Works and Its Impact on the Canadian Dollar

Once an economic recovery is under way and inflation begins to rise, quantitative tightening (QT) reverses the earlier use of QE. Under QE, purchases of government and corporate bonds by the Bank of Canada supply financial institutions with liquidity. QT instead ends further asset purchases and the reinvestment of principal as bonds already held by the BoC mature. This is generally supportive of, or bullish for, the Canadian Dollar.