Although the inflation rate appears to have peaked, it is still high, and the Bank of Canada anticipates raising rates significantly again next week.
Some economists believe the increase on Wednesday may be the final.
According to Karyne Charbonneau, executive director of economics at CIBC, by the time October rolls around, we might be in a decent enough position for the bank to take a break and look at how the economy is behaving.
The rate announcement for September comes at a critical time for the Canadian economy.
As a result of falling gas prices, the annual inflation rate dropped from 8.1 per cent in June to 7.6 per cent in July. Compared to the first three months of the year, the second quarter’s GDP increased, but that growth slowed, and a preliminary estimate indicates a decrease in July. In addition, the unemployment rate is maintaining a historic low.
Although the inflation rate has decreased, Bank of Canada Governor Tiff Macklem stated in an opinion piece on August 16 that the 40-year high inflation rate remains a serious concern. He added that there is more work to do before the inflation rate returns to the desired two percent level.
Major Canadian banks anticipate that the central bank will increase the benchmark interest rate by 0.75 percentage points to bring it to 3.25 per cent.
After a series of increases in March, the bank raised its key rate by a full percentage point in July, which was the biggest rate increase since August 1998. Earlier the rate was 0.25 per cent, which was reduced to almost zero at the beginning of the pandemic.
It becomes more expensive for Canadians and businesses to borrow money when interest rates are higher since this increases lending rates throughout the economy. Therefore, the central bank’s goal is to reduce economic growth and lower inflation by improving the cost of debt.
Senior economist David Macdonald at the Canadian Centre for Policy Alternatives cautions about the high business and household debt levels due to interest hikes.
Macdonald’s most recent research shows that the private sector debt represents 225 per cent of the nation’s GDP. Comparatively, the last time the bank increased interest rates this quickly, private sector debt was 142 per cent of GDP in 1995.
He claims that it will be more difficult to achieve the bank’s targeted “soft landing,” in which interest rate hikes bring inflation down without recession due to the increased debt.
Macdonald has advocated for alternatives to central bank policies, such as federal government regulation, to reduce inflation.
To lower house prices, he suggests altering the mortgage underwriting guidelines for investors and extending the new excess corporate profits tax outside financial institutions.
But according to Christopher Ragan of the Max Bell School of Public Policy at McGill University, the central bank is best prepared to handle the responsibility of keeping interest rates low.
Ragan claimed that the Bank of Canada’s independence allows it to respond to inflation, whereas any government action would be very political. However, he agrees that raising interest rates to lower inflation is painful.