Bank of Canada: Rate Hike July 2017

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  1. For the first time in 7 years, the Bank of Canada has chosen to raise the overnight rate target from 0.5% to 0.75%. This is following the rate hikes that we have seen in the United States in June, despite other diverging interest rate strategies set out by various central banks around the world.

Why a rate hike now?

 

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Source: Bank of Canada

For the most part, economists have expected a rate hike, citing strong growth after the 2008-2009 recession, the fastest within the G7, and growth targets almost double than those set by the Bank of Canada[1]. However, the improved economic outlook also played a strong role in increasing household debts caused by cheap credit, that for many economists, put the Canadian housing market at risk.

In fact, given the problems and strengths economists have seen within the last two to three fiscal years, government bond markets have been moving up, with almost 75% of economists predicting a rate hike.[2] The anticipation of a rate hike has caused a strong selling trend within the Canadian government bond market, with 10-year treasury notes reaching yields as high as 2.39%, and two-year yields surging 26 basis points.[3]

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Source: Bank of Canada

As well as the domestic growth, the Bank of Canada looked to foreign economies, citing stronger and broader growth with the eurozone, and moderate expansion within the American economy. Globally, the Bank of Canada anticipates global growth to total 3.4% this year, despite uncertainty caused by potential trade policy changes within the United States, especially given that projections signal a declining American share of global GDP, with anticipated growth rates dropping to 1.8% by 2019 [4]. Emerging markets are projected to continue rapid growth.

Oil & Natural Gas

The crumbling oil prices, now sitting around $50 a barrel,[5] are projected to continue to sit at such historic levels, despite OPEC attempts to to curb production, given an increase of US shale production. The BoC foresees declining prices in the short term, citing technological improvements. However, they advise increases in the price, citing decreased investments that may lead to a shortage in supply. Overall, it appears that the Bank of Canada believes that oil prices have stabilized within the projection horizon, and does not believe the sector poses severe threats to the economy, thus giving the Bank a great opportunity to wean the Canadian economy off of cheap credit.

Summary

In general, the Canadian economy has made a well-maintained exit out of the 2008-2009 recession, marked by some of the strongest growth in Canadian history. Considering rising CPI inflation and stable growth with some of Canada’s largest trading partners, namely with the United States and the Eurozone, albeit political uncertainty, the Bank of Canada sees reason to increase the overnight rate target from 0.5% to 0.75%.  

[1] http://www.bankofcanada.ca/wp-content/uploads/2017/07/mpr-2017-07-12.pdf

[2] Ibid.

[3] http://business.financialpost.com/news/economy/your-guide-to-the-bank-of-canadas-bellwether-rate-decision/wcm/ace08235-acab-4d52-8fcc-8bd02471d69b

[4] http://www.bankofcanada.ca/wp-content/uploads/2017/07/mpr-2017-07-12.pdf

[5] Ibid.

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