There was no surprise in this morning’s decision by the Bank of Canada to leave its overnight target rate at 5% for the second straight meeting. Economic conditions are weakening under the weight of record debt and the lagged effects of tightening in 2022 and this year, and the Bank referenced the fact that the output gap has now effectively closed. This easing in economic activity should, in the Bank’s opinion, continue to push inflation lower though the Bank is also indicating that the low hanging fruit on the immaculate disinflationary tree has already been taken.

 

 

The fact that debt-service payments in Canada have grown by roughly 50% since 2021 suggests that Canadian households are not going to be as resilient as what we are witnessing in the U.S. and the market is leaning towards a situation where the Bank of Canada is done in terms of further rate hikes. Note, the Bank’s statement does leave the door open to additional tightening (if needed), but this language is there simply to appease inflation hawks and support credibility.

 

The question now is how long we should expect the Bank to stand pat on rates?  If we go back to 2019, the Bank had just lifted its target rate a quarter point to 1.75% and then proceeded to hold there for all eight meetings that year and the first two meetings of 2020. The next move was a cut, in response to the pandemic. A number of months ago, economists were still pricing in rate cuts in both Canada and the U.S. as early as the first half of 2024, but that view has faded. BA futures out to December of next year are pointing to no change in the Bank’s rate and that would imply ten meetings without a change – tying the 2019-20 experience.

 

I doubt that Canada’s economy will be able to withstand current rates for that long without a recession, and Ally and I believe that we are likely to see at least a couple of cuts by this time next year. That supports our thesis for extending term in the bond portfolio.  In terms of the Canadian dollar, market participants have read this morning’s statement as dovish and the Loonie has fallen down to the 72.50 U.S. cent level. If 72 cents can hold, then snowbirds may not have to get too concerned. If it breaks, then we are heading down to 70 cents in my opinion. The question then would be how much upward impact this has on inflation and if that pulls the Bank of Canada back into rate hike mode.

 

On behalf of the Pyle Group, have a great day.   

Andrew Pyle

 

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Andrew Pyle is an Investment Advisor with CIBC Wood Gundy in Peterborough. He and his clients may own securities mentioned in this column. The views of Andrew Pyle do not necessarily reflect those of CIBC World Markets Inc.