Economy

Why the Bank of Canada’s Interest rate hike is exactly what the economy needs

Published

2 years ago

December 12, 2022

It tastes awful, but it works. Let’s just hope the side effects are minimal

The Bank of Canada building in Ottawa. Photo by Sean Kilpatrick/The Canadian Press files

The economy is slowing. Housing prices are in free fall. Many fear a recession next year. Consumer price growth is easing. Yet the Bank of Canada is still raising interest rates aggressively, with last week’s half-point hike the sixth successive outsized move. Average people are wondering if it’s necessary, whether prior rate increases were enough. Why the heavy foot on the brake pedal?

I’m part of a dying species — the generation that actually experienced our last inflationary bout. As kids in grade school, we talked about sky-high oil prices, food shortages, running out of this and that, out-of-control inflation and leaders madly scrambling for solutions. The 1970s spilled into the 1980s, and despite much effort, the inflation beast remained untamed.

Like today, prices back then were pretty tame for over a decade before inflation hit in the early 1970s. At that point, prices accelerated rapidly due to sustained strong demand, and vaulted into double-digits with the oil price shocks. The impact was quite sudden, and took a long time to subside. This time around, a 31-year run of programmed price stability was not enough to counter a sharp run up in prices.

Why? Well, it began with specific prices. The pandemic interrupted a finely tuned, pan-global logistics network by hitting different countries at different times. It wasn’t initially a problem, as global consumption also fell. But when the economy started firing again, many products simply couldn’t keep pace — think energy, other commodities and semiconductors. The Russia-Ukraine conflict further constrained energy supply while adding food to the mix.

Initially, central banks waved it off, expecting that bottlenecks would be temporary and that prices would soon calm down. Clearly, that didn’t happen. In fact, as the weeks passed, inflation’s reach rapidly spread to a much wider range of goods and services; it was no longer just the volatile, non-core elements of the price indexes that were misbehaving. It gets particularly complicated when goods that are used in just about everything are in short supply. Back in the 70s, the high intensity of oil use in the economy saw energy price increases spread everywhere. Intensity is much lower now, so oil isn’t as influential as before. But what about semiconductors? They may be a small part of the cost of final products, but they are in just about everything. Cut off the supply, and suddenly shortages are widespread.

At that point, a more generalized inflation is almost unavoidable and reining things in becomes a lot more complicated. Shortages, real or rumoured, create a rush of extra demand and a willingness to pay the asking price. Suddenly, price sensitivity isn’t as great and prices are determined by what the market will bear. This is where price expectations, anchored for decades, become unhinged. And if there happens to be ample liquidity in the economy — low interest rates and quantitative easing assured that — then there’s even less to restrain price growth.

Enter the moral dilemma: if goods and services are perceived to be in short supply, and buyers are willing to pay whatever just to get what they need, profit-maximizing sellers can get opportunistic. Regardless of whether shortages are real, if consumers and businesses are prepared to pay 15-20 per cent more … well, why not?

It doesn’t stop here. With prices riding well ahead of wages, employees at all levels get antsy — especially at annual review time. Given record-low unemployment and our current paucity of skilled workers, businesses aren’t in a strong bargaining position. Fail to meet expectations, and turnover could soar. Meet expectations, and you could be out of business. One way or another, a jump in wage growth is almost impossible to resist. That’s when demand-pull inflation turns into cost-push inflation — a much harder beast to tame, as wage-price spirals can set in.

The dynamics of pricing haven’t changed over time. But we haven’t seen them for so long that we likely forgot how they work: that it’s not so much prices, but price expectations, that matter. And that reining them in requires heavy monetary medicine. It tastes awful, but it works. Let’s just hope the side effects are minimal.

Peter Hall is chief executive of Econosphere Inc. and a former chief economist at Export Development Canada.

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Economy

Energy stocks help lift S&P/TSX composite, U.S. stock markets also up

Published

15 hours ago

September 17, 2024

Anne Joseph

TORONTO – Canada’s main stock index was higher in late-morning trading, helped by strength in energy stocks, while U.S. stock markets also moved up.

The S&P/TSX composite index was up 34.91 points at 23,736.98.

In New York, the Dow Jones industrial average was up 178.05 points at 41,800.13. The S&P 500 index was up 28.38 points at 5,661.47, while the Nasdaq composite was up 133.17 points at 17,725.30.

The Canadian dollar traded for 73.56 cents US compared with 73.57 cents US on Monday.

The November crude oil contract was up 68 cents at US$69.70 per barrel and the October natural gas contract was up three cents at US$2.40 per mmBTU.

The December gold contract was down US$7.80 at US$2,601.10 an ounce and the December copper contract was up a penny at US$4.28 a pound.

This report by The Canadian Press was first published Sept. 17, 2024.

Companies in this story: (TSX:GSPTSE, TSX:CADUSD)

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Economy

Canada’s inflation rate hits 2% target, reaches lowest level in more than three years

Published

16 hours ago

September 17, 2024

Anne Joseph

OTTAWA – Canada’s inflation rate fell to two per cent last month, finally hitting the Bank of Canada’s target after a tumultuous battle with skyrocketing price growth.

The annual inflation rate fell from 2.5 per cent in July to reach the lowest level since February 2021.

Statistics Canada’s consumer price index report on Tuesday attributed the slowdown in part to lower gasoline prices.

Clothing and footwear prices also decreased on a month-over-month basis, marking the first decline in the month of August since 1971 as retailers offered larger discounts to entice shoppers amid slowing demand.

The Bank of Canada’s preferred core measures of inflation, which strip out volatility in prices, also edged down in August.

The marked slowdown in price growth last month was steeper than the 2.1 per cent annual increase forecasters were expecting ahead of Tuesday’s release and will likely spark speculation of a larger interest rate cut next month from the Bank of Canada.

“Inflation remains unthreatening and the Bank of Canada should now focus on trying to stimulate the economy and halting the upward climb in the unemployment rate,” wrote CIBC senior economist Andrew Grantham.

Benjamin Reitzes, managing director of Canadian rates and macro strategist at BMO, said Tuesday’s figures “tilt the scales” slightly in favour of more aggressive cuts, though he noted the Bank of Canada will have one more inflation reading before its October rate announcement.

“If we get another big downside surprise, calls for a 50 basis-point cut will only grow louder,” wrote Reitzes in a client note.

The central bank began rapidly hiking interest rates in March 2022 in response to runaway inflation, which peaked at a whopping 8.1 per cent that summer.

The central bank increased its key lending rate to five per cent and held it at that level until June 2024, when it delivered its first rate cut in four years.

A combination of recovered global supply chains and high interest rates have helped cool price growth in Canada and around the world.

Bank of Canada governor Tiff Macklem recently signalled that the central bank is ready to increase the size of its interest rate cuts, if inflation or the economy slow by more than expected.

Its key lending rate currently stands at 4.25 per cent.

CIBC is forecasting the central bank will cut its key rate by two percentage points between now and the middle of next year.

The U.S. Federal Reserve is also expected on Wednesday to deliver its first interest rate cut in four years.

This report by The Canadian Press was first published Sept. 17, 2024.

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Economy

Federal money and sales taxes help pump up New Brunswick budget surplus

Published

2 days ago

September 16, 2024

Anne Joseph

FREDERICTON – New Brunswick‘s finance minister says the province recorded a surplus of $500.8 million for the fiscal year that ended in March.

Ernie Steeves says the amount — more than 10 times higher than the province’s original $40.3-million budget projection for the 2023-24 fiscal year — was largely the result of a strong economy and population growth.

The report of a big surplus comes as the province prepares for an election campaign, which will officially start on Thursday and end with a vote on Oct. 21.

Steeves says growth of the surplus was fed by revenue from the Harmonized Sales Tax and federal money, especially for health-care funding.

Progressive Conservative Premier Blaine Higgs has promised to reduce the HST by two percentage points to 13 per cent if the party is elected to govern next month.

Meanwhile, the province’s net debt, according to the audited consolidated financial statements, has dropped from $12.3 billion in 2022-23 to $11.8 billion in the most recent fiscal year.

Liberal critic René Legacy says having a stronger balance sheet does not eliminate issues in health care, housing and education.

This report by The Canadian Press was first published Sept. 16, 2024.

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