Bank of Canada holds rate, expecting strong rebound this summer

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Weaker-than-expected economic growth and hotter-than-normal inflation don’t seem to be overly bothering Bank of Canada governor Tiff Macklem and his deputies, who today said the most recent economic data align with their outlook. Importantly, they stuck to their view that the economy could pop this summer as the third wave of COVID-19 infections fades as a serious health threat.

“Economic developments have been broadly in line with the outlook,” the central bank said in its new policy statement. “With vaccinations proceeding at a faster pace, and provincial containment restrictions on an easing path over the summer, the Canadian economy is expected to rebound strongly, led by consumer spending.”

As expected, Macklem and his advisers on the Governing Council opted to leave the benchmark lending rate unchanged at 0.25 per cent, the lowest ever. They reiterated their intention to leave the policy rate unchanged until at least the second half of 2022, an extraordinary promise meant to stiffen business and consumer confidence by assuring the public that it can count on exceptionally low interest rates for a set period of time.

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“The Governing Council judges that there remains considerable excess capacity in the Canadian economy, and that the recovery continues to require extraordinary monetary policy support,” the statement said.

A small number of observers wondered if the prospect of a strong recovery this summer might prompt the Bank of Canada to ease up a little, as it did in April, when it tapered its weekly purchases of Government of Canada bonds. That didn’t happen.

Instead, policy-makers re-upped their commitment to buy $3-billion worth of federal debt each week, a strategy that puts additional downward pressure on borrowing costs by creating more demand for the securities on which the prices for most other financial assets are based. Bond yields fall when prices rise, so the Bank of Canada, using its unique power to create money, can generate stimulus by joining the bidding on financial assets.

The Bay Street economists who watch the central bank most closely assumed that the Bank of Canada would stay in a holding pattern after its latest round of interest-rate deliberations. Macklem has said that he is prepared to run the economy hot until hiring returns to pre-pandemic levels, and that he assumes the burst in inflation this spring will be a temporary phenomenon. He could adjust his thinking if facts change, but nothing has happened since the Bank of Canada updated its outlook in April that requires a course correction.

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Gross domestic product (GDP) grew at an annual rate of 5.6 per cent in the first quarter, a decent pace given all that’s happened over the last year, but it’s slower than the seven-per-cent rate of recovery that the Bank of Canada forecast in April. Meanwhile, the Consumer Price Index (CPI), which is the gauge the central bank uses to calibrate interest rates, surged to 3.4 per cent in April, breaching the high end of policy-makers’ comfort zone.

The Bank of Canada acknowledged that the latest GDP reading was weaker than it had expected, but still described the rate of growth as “robust.” Policy-makers attributed the miss to a large decrease in inventories and a bigger-than-expected jump in imports, two things that are commonly associated with strong demand. “The underlying details indicate rising confidence and resilient demand,” the statement said.

Policy-makers stuck to their view that hotter inflation will pass, maintaining that current year-over-year readings are being exaggerated by the economy’s brush with deflation in 2020. Still, they indicated that they are sensitive to the possibility that they could be wrong, going out of their way to state that factors that they have previously identified as risks to their inflation outlook “remain relevant.”

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