The Bank of Canada’s trend-setting policy rate is fixed until March, and the Bank’s leadership is proclaiming a “conditional pause” in the rate-hiking cycle. That has led to a growing notion that interest rate cuts are coming. Some forecasts say the Bank could pivot from raising, to lowering, by the end of the year.
Financial markets and investors have already begun “pricing in” at least one rate cut by the end of 2023. Bond yields, particularly the Government of Canada 5-year bond, have dropped. This is reflected in declining fixed-rate mortgage costs, which are largely based on the price of these bonds.
While the BoC wants to pause, and examine the effectiveness of its rate hikes in the fight against inflation, the markets appear to believe the battle has already been won. Inflation is, indeed, down but it is still more than three-times higher than the Bank’s target.
Most of the decline in inflation has come from the falling price of oil, which is volatile at the best of times. As soon the global economy starts to rev-up again, oil prices will rise. Some forecasts say the price of gasoline will be well above $2.00 a litre this summer.
At the same time, food price inflation remains remarkably high and wages are going up at their fastest rate in years. Unlike commodity prices, wages do not tend to move up and down, just up, making them a “stickie” factor in the inflation calculation.
The Bank of Canada also has to keep one eye on the U.S. Federal Reserve which has made it clear, it has no plans to pause its rate-hiking cycle.