CIBC doesn’t think the Bank of Canada will raise its overnight rate next week

Today, most markets expect the Bank of Canada to start raising its key lending rate next week. However, there are also other opinions.

For instance, strategists at CIBC Capital Markets are keeping their forecasts of the first rate increase happening in a few months.

“We don’t share the markets’ view, and believe the BoC will not raise rates next week. We expect no rate changes, a hawkish tone, and market pricing for January to be reallocated into 2023,” – a report by Ian Pollick from CIBC says.

The latest Bloomberg poll says that on Friday morning, investors were pricing in a 73.8% chance that the central bank will raise its overnight rate by 0.25% to 0.50% on Wednesday.

“In our opinion, the BoC can afford to wait for a few weeks and raise the rate in March or April, as it will not have a significant influence on the inflation trajectory or risk overheating the economy, especially as the former is caused by supply-chain and pandemic related shortages, which won’t be solved,” – the report noted.

Canada shows one of the highest total debt levels in the developed world, going slightly behind France and outpacing the U.S. significantly. Despite that, markets believe the Bank of Canada will be the most aggressive among Group of Seven central banks in terms of lifting rates.

Economists and traders predict a series of increases, probably starting on January 26 decision, until the policy rate returns to the pre-pandemic level of 1.75% in almost a year. The Bank of Nova Scotia is predicting even a 2% level.

The good thing about it is that higher interest rates don’t lead to a sharp economic slowdown but can cool inflation. In December, consumer prices showed the fastest growth pace in 30 years.

Nevertheless, the potential for policy mistake has intensified along with inflation.

The BoC led by Governor Tiff Macklem will worry that in case they start acting too quickly, they will destabilize the national economy that has one of the most expensive housing markets in the world. At the same time, they know that if they wait for too long, they may lose control over consumer prices and destroy the credibility that’s been building for three decades.

It’s almost the same situation with the Prime Minister Justin Trudeau.

It becomes more and more difficult for him to justify budget deficits. However, the pressure to help Canadians with the growing cost of living may raise demands for continued government help. Fiscal expansionism has been one of the main tools of the prime minister’s agenda for six years, including his re-election campaign last year.

“We are entering probably the riskiest economic policy conditions in decades,” – Robert Asselin, a former Trudeau adviser, now a vice-president at the Business Council of Canada, said.

On the one hand, the normalization of interest rates from record lows is a success, reflecting an economy that’s offset its pandemic losses, now is getting close to full employment and running up against capacity.

In 2021, the national economy created 886,000 new jobs, marking a record year. Following the loss of 3 million jobs at the beginning of the pandemic, employment is now 240,500 above where it was in February 2020. Meanwhile, the U.S. employment remains almost 3 million below that level.

In addition to it, commodities have also been showing good results, supporting the national income. And still, analysts worry about the stability of the recovery, which has relied on a housing market activity and one of the largest fiscal expansions.

Real estate prices were up by 41% since the BoC cut interest rates to the historically low level in March 2020. At the same time, total private and public debt outside of the financial sector, rose by more than $1 trillion (US$802 billion) to $8.1 trillion last June.

That accounts for about 345% of the GDP and represents the sixth highest result among more than 40 rich economies studied by the Bank for International Settlements. It’s still unclear how the economy will react to a borrowing costs increase.

“I don’t think we need to turn the screws on real estate too much, too fast,” Benjamin Reitzes from BMO says. “There’s certain risk in it and we need to make sure that market remains stable.”

Others say the BoC already has only limited options, as with the current prices growth, a gradual approach may fail to slow inflation, thus leading to even more aggressive tightening in the future.

“We can’t guarantee a soft landing, but decisions made by the central bank will soon determine whether we have a chance,” – Derek Holt, an economist at Scotiabank, said. “Canada is at a fork in the road right now.”