Rating game

Will this rate hike be the last?

So, governor Macklem, are we there yet?

Since March, the Bank of Canada has now raised its key interest rate by 400 basis points — a full four percentage points — making good on its vow to “front-load” its battle against inflation.

Borrowing money has not been this expensive since before the Great Financial Crisis of 2008-09. It looks like the era of easy money is drawing to a close in the name of fighting an alarming, pervasive and persistent rise in consumer prices around the world.

We’re seeing some initial results, uncomfortable as they are. The housing market is deflating, the economy is slowing, the talk of imminent recession here and elsewhere is mainstream.

Inflation is still high however, even though stifling it was the whole point of the exercise.

But something has changed in Bank of Canada governor Tiff Macklem’s thinking: it’s now all about “whether” he should continue to ratchet up the cost of borrowing at such an alarming speed. No longer a promise that he “will.”

It’s a tacit message that Macklem has almost done all he can to deliberately crush inflation, and the rest is mostly up to the global economy — and the Canadian public’s attitude.

Indeed, financial markets on Wednesday read the central bank’s commentary to mean that its hiking of rates is nearly done. Maybe one more time in January.

The bank pointed out it will continue to push “quantitative tightening” — letting the hundreds of billions of dollars in bonds it purchased during the worst of the pandemic lockdown fall off the central bank’s books. That process will amplify the effect of higher interest rates in making money less easily available.

But overall, it looks like Macklem thinks we are almost there, barring some kind of surprise.

The front-loading approach has definitely done its work on the housing sector, although that’s a double-edged sword.

Housing prices and the volume of sales have been sliding and they’ll keep doing so, according to an analysis from Royal Bank’s Robert Hogue, assistant chief economist.

“Higher rates are forcing many (buyers) to put their purchase plans on ice and others to househunt on a reduced purchasing budget,” he writes. “We think this will continue to be the case into the early part of 2023 — conditional on the Bank of Canada halting its rate hiking campaign this month.”

At the same time, affordability is deteriorating. With Wednesday’s half-percentage-point interest rate hike, the majority of variable-rate mortgage holders will have hit their trigger rate — the point at which interest payments eat up the entire monthly instalment, and nothing is being paid on the principal. Mortgage-holders will need to increase their monthly payments immediately as a result.

And that’s not all. The domesticfacing side of the Canadian economy is losing momentum, and consumption — also known as shopping — has dropped off. That’s not surprising given the amount of debt we shoppers are carrying these days — debt that has suddenly become far more expensive to carry.

Yet inflation is running stubbornly high at 6.9 per cent, pinching the budgets of Canadian households especially when it comes to buying food and fuel.

And that puts the squeeze on politicians in power, since their main ally in fighting inflation is now hanging up his gloves.

In Ottawa, the Conservatives and NDP both wasted no time in heaping blame on the Liberals for Wednesday’s interest-rate hike, saying Justin Trudeau’s lack of antiinflation action has led to uncomfortably high borrowing costs for consumers.

But the Liberals are having a hard time with a good comeback to that criticism.

While the central bank’s rate-hiking exercise will have ripple effects on Canadian households and businesses for many months to come, most of the inflation these days is due to global factors, recent number-crunching by Scotiabank shows.

Since the end of 2019, about half of the increase in inflation comes from global or foreign factors such as U.S. inflation, rising commodity prices and the exchange rate, according to the analysis by chief economist Jean-François Perrault and director of modelling René Lalonde.

Big government spending from the pandemic did a lot to fill up the bank accounts of Canadian consumers, they say, but when all is said and done, the government transfers added just 0.45 percentage points to inflationary pressure over the past three years.

So the options for the government are mainly limited to dealing with the fallout of inflation rather than fighting inflation head-on. That’s why we see Trudeau pointing to child-care funding, dental benefits, wage subsidies and tweaks to rental benefits rather than a full-blown strategy to confront inflation per se.

That tension will only get worse over the next few months, as the downturn in the economy grips businesses, and prices stay stubbornly high.

For the Bank of Canada’s Macklem, the trip may be almost over. But for Trudeau and his cabinet, they’re in for a bumpy ride.

Macklem’s thinking has changed: It’s now all about ‘whether’ he should continue to ratchet up the cost of borrowing, no longer a promise that he ‘will’