They say that actions speak louder than words, and this definitely applies when it comes to the Bank of Canada.
The central bank now forecasts the consumer price inflation (CPI) index will return to two per cent in mid-2025. If this two-year prediction causes you concern that policymakers won’t be lowering rates for two years, fear not. It is quite amazing that they feel confident in making a prediction for two years out. Keep in mind that only 18 months ago, the overnight rate was still 0.25 per cent.
To show what I mean, let’s take a closer look at the last time interest rates were this high, which was in 2001.
As 2000 turned to 2001, the Bank of Canada’s rate was at six per cent. It is 5.25 per cent today. Back then, real gross domestic product (GDP) was growing by 4.7 per cent and employment was rising by 2.6 per cent. Higher energy prices were boosting exports. There was growth in employment and wages and, together with tax cuts, this grew consumer spending.
However, all was not rosy. The tech bubble burst in early 2000, and the end-of-year forecasts for 2001 were not great. GDP growth was expected to slip to between two and three per cent, according to private-sector forecasts. Among the concerns were the effects of previous increases in interest rates, higher energy prices and overall weakening confidence.
As it turned out, Canada’s GDP dropped all the way to 1.79 per cent in 2001 from 5.18 per cent in 2000. Unemployment was at 6.83 per cent in 2000 (much higher than today’s rates), but went up to 7.22 per cent in 2001 and 7.66 per cent in 2002.
Did the Bank of Canada predict these moves in May 2000? No, it did not. At the time, it was clearly worried about higher inflation.
The May 2000 Bank of Canada Monetary Policy Report said: “ … (we see) several key areas of uncertainty for the conduct of Canadian monetary policy in the period ahead. First, the momentum of demand in Canada from both international and domestic sources could continue to outpace expectations. Second, a possible buildup of inflationary pressures in the United States could have implications for Canada. Third, the capacity of the Canadian economy to produce goods and services without adding to inflationary pressures may be higher than previously thought.”
There was a clear slowdown ahead in the economy, but things got much worse when the completely unpredictable 9/11 attacks in the United States took place. That helped push a meaningful slowdown in 2001 to a much worse place.
Clearly, there are many differences between 2001 and today. What led to the run-up in interest rates in 1999 and 2000 was different from the reasons for the run-up today. But some of the economic similarities are meaningful.
The monthly all-in CPI was just 0.66 per cent in January 1999. As the economy improved, the CPI rose to 2.63 per cent by December 1999, and was at 3.2 per cent in December 2000. By this time, the Bank of Canada had raised its rate to six per cent in an effort to calm inflation.
Is this instructive for what the Bank of Canada will do next with interest rates? I think so. The key takeaway for me is that things can quickly change.
Eighteen months ago, we had super low interest rates in Canada. Today, not so much. In late 2000, the rate was six per cent. By January 2002, it was 2.25 per cent.
Over the past 30 years, the Bank of Canada has raised rates ranging from 1.25 to 3.2 percentage points on six different occasions (prior to the significant current rate hikes). The one thing they all had in common was that it didn’t take long for each of them to be followed by a period of declining interest rates, ranging from 1.25 to 5.125 percentage points.
Ted Rechtshaffen, MBA, CFP, CIM, is president, portfolio manager and financial planner at TriDelta Financial, a boutique wealth management firm focusing on investment counselling and high-net-worth financial planning. You can contact him directly at [email protected].
