April 13, 2022 | 11:06
BoC: The Big Five-O
The Bank of Canada hiked its key overnight lending rate 50 bps to 1.0%, as widely expected. The outsized rate hike was the first 50 bp gulp since May 2000, and followed a like-sized hike by the RBNZ just hours earlier. In addition, the Bank also announced that it will begin to reduce its balance sheet, by simply not reinvesting maturing bonds (i.e., the start of QT). This double-dose of tightening medicine is aimed squarely at feverish inflation—while Canada's headline rate of 5.7% looks a bit mild versus some others, it's about to pop above 6% and is still somewhat flattered by the absence of used car prices.
The Bank's commentary certainly suggests that hefty hikes aren't done yet. Not only did they flatly state that "interest rates will need to rise further", but they have actually upgraded their inflation forecast (no surprise) and their growth projection (big surprise) for this year. This will leave the economy "moving into excess demand and inflation persisting well above target".
On the balance sheet: The Bank announced that they are not actively considering selling bonds. They will not be buying in the primary or secondary market once QT begins (April 26). The last secondary operation is on April 21, and the last auction purchase will be at the April 21 10-year auction.
The Bank's economic forecast was boosted this year, but shaved in 2023. Their call on Q1 edged up to 3.0% (we're now at 4.0%), but they are looking for a major re-opening pop in Q2 with a whopping 6.0% sprint in this quarter (we see a much milder 2.5%). As a result, they have actually lifted this year's growth estimate to an above consensus 4.2% pace (we are 3.5% and consensus is 3.9%). Meantime, and of no surprise, their inflation call has been cranked higher from three months ago, alongside the sprint in oil and other commodity prices. The Bank is not far from our view for this year (see table), but they look for a much more notable moderation in 2023 (to just 2.4% by year-end).
The Bank also updated its estimate of neutral interest rates, and this is potentially important. Previously, they had them pegged in a range of 1.75%-to-2.75%, but now see them 25 bps higher at 2.0%-to-3.0%. We believe that the Bank will get the policy rate to at least the low end of that range as quickly as reasonably possible, before then shifting to a meeting-by-meeting game-time decision—which we believe will be a series of 25 bp hikes on alternate meetings, until they get to the higher end of the neutral range.
A few key quotes from the Bank today:
Bottom Line: The Bank of Canada delivered on the expected 50 bp rate hike and the beginning of balance sheet reduction (QT) in a combination of measures aimed at cooling much-too-hot-for-anyone's-comfort inflation. The stern measures were backed up by stern words, pointing to the strong possibility of a follow-up 50 bp hike at the June 1 meeting. The task at hand is clear to all, and the need for speed is obvious.
As a result of the Bank's upbeat view on growth, their concerns over inflation becoming entrenched, and their upward revision to neutral, we are lifting our call on BoC rate hikes by a further 25 bp for this year. We look for a 50 bp hike in June, and another such move in July, quickly bringing the overnight rate to 2.0%, or the low end of neutral. We thus now see the Bank hiking by a further 125 bps this year to end at 2.25% (previously 2.0%), while still expecting another total of 50 bps in 2023, bringing the end point on rates to 2.75% (previously 2.50%), the upper end of their neutral range.