Next Wednesday, the Bank of Canada has its first rate meeting since April—and for the first time led by its new Governor, Tiff Macklem.
Analysts have little doubt that Tiff will leave the country’s key interest rate unchanged at 0.25%. Markets agree too. Pricing in the bond market implies virtually no chance of a rate cut next week.
With continued uncertainty over the economy’s ability to restart and recover in the face of still-rising COVID-19 infections, markets currently foresee a roughly 15% chance of an additional rate cut by year-end. But, while talk of negative interest rates has increased now that Canada’s overnight rate is just a quarter-point away from zero, Governor Macklem said during his first press conference that he sees negative interest rates as “disruptive.”
For that reason, economists have focused on the other tools the Bank has at its disposal, including asset purchases, a.k.a. Quantitative Easing, which the Bank has done aggressively since March.
All that said, here’s a sampling of what economists have to say about the Bank of Canada’s June 3 rate decision…
“Negative interest rates are back in the spotlight. Markets are pricing them in in the U.S., although not yet in Canada where the policy rate is still higher….Overall, we do not think the Bank will pull its policy rate negative soon, even with a new Governor taking the helm…There are reasons why negative rates could eventually prove effective if the Bank found workarounds [to some of the challenges it presents]…Rather than face the potential risks of a negative policy rate, a better solution could be to simply implement a funding for lending program with a negative interest rate that applies only to the funds lent out to banks under the scheme.”
“The Bank appears to be relatively optimistic on supply, suggesting that many currently unemployed Canadians may be able to find work relatively easily. The bigger concern appears to be the shock to demand as household incomes and wealth have taken significant hits. Less demand means less inflation, and thus the core of the Bank's recent unprecedented actions, both in interest rate cuts and asset purchases. With the effects of the pandemic likely to linger for some time, so too will low rates and other extraordinary monetary policy measures.” (Source)
“While we should see a reasonable bounce-back in economic activity as containment measures are lifted, we think a full recovery will take years. Excess supply should keep inflation below the BoC’s target. Monetary policy is currently focused on improving financial market functioning. But as we enter the recovery phase, QE (Quantitative Easing) and low interest rates will be relied upon to stimulate growth.” (Source)
“We’re going to end up with a minor form of stagflation [high inflation combined with high unemployment and stagnant demand]. I think that’s beyond the next two or three years,” said founder David Rosenberg. He told BNN Bloomberg this will put the BoC in a “bit of a conundrum,” putting pressure on the bank to keep rates low.
“We are in an era where interest rates are probably going to stay low, for demographic reasons and economic growth reasons. I don’t know how low really, but they’re just not going to be like where they were 20 years ago or 30 years ago,” Poloz said. “So central banks will have less room to manoeuvre.”
“When you look at the current situation… I’m quite comfortable with the effective lower bound where it is,” the Governor said on May 1. Commenting on extraordinary measures employed to date to manage the economic crisis, he added: "You need to restore confidence and I think when you look at what the Bank of Canada has done so far, when you look at the actions that the Government of Canada has taken to provide a bridge to Canadians to the other side of this, these are bold, unconventional policy responses that really have embraced this idea."
[1] The overnight rate is the interest rate the Bank of Canada uses to control inflation. It raises the overnight rate to slow inflation and vice versa. The overnight rate is the #1 determinant of prime rate, the basis for variable-rate mortgages.
[2] The neutral rate is the theoretical Bank of Canada overnight rate that neither boosts nor restrains economic growth. It’s updated every April.
[3] This is the implied number of Bank of Canada rate changes based on prices of overnight index swaps (OIS). OIS are bond market derivatives that traders use to bet on the direction of interest rates.
[4] Prime rate is tracked by the Bank of Canada. It equals the typical (mode average) prime rate of the six largest Canadian banks.
[5] This figure equals the year-end 2021 overnight rate forecast from major economists (as tracked by Bloomberg) plus a 220-basis point spread (which is the current spread between prime rate and the overnight rate).
[6] As of the date of this publication, as tracked by RateSpy.com
[7] This figure equals the year-end 2021 5-year Government of Canada bond yield forecast from major economists (as tracked by Bloomberg) plus a 150-basis-point spread (which is the typical spread between the 5-year yield and average 5-year fixed rates).