Bank of Canada Puts Credibility on the Line With Hawkish Hold

  • In Business
  • 2022-01-26 21:25:05Z
  • By Bloomberg

(Bloomberg) -- Governor Tiff Macklem was going to risk losing some credibility at this week's Bank of Canada decision, whatever he did.

Most Read from Bloomberg

  • A Nor'easter Approaching New York Risks Becoming a Bomb Cyclone

  • Mark Zuckerberg's Stablecoin Ambitions Unravel With Diem Sale Talks

  • Stocks Drop, Yields Jump on Hawkish Powell Signals: Markets Wrap

  • Astronomers Spot Never-Before Seen Object at 4,000 Light-Years Away

  • Stock Rebound Fails and Futures Plunge on Earnings: Markets Wrap

His own analysts presented him with evidence the economy is on the cusp of overheating and made a clear-cut economic case to hike immediately. But Macklem had told Canadians and investors they'd get a heads up before increasing rates.

A move Wednesday could have been seen as a betrayal of that promise. Instead, he chose to leave the bank's policy rate unchanged at 0.25% for at least five more weeks.

That decision, which formally ended what Macklem called exceptional forward guidance, potentially risked some credibility on inflation in order to deliver an advance signal that borrowing costs are going to rise.

"The bank elected to preserve the ability to use forward guidance as a credible policy tool by choosing to drop it first, and to thus signal that hikes will follow," Ian Pollick, who heads fixed income, currency and commodity research at the Canadian Imperial Bank of Commerce, said in a report to investors.

By doing so, however, the governor also revealed that he either saw no urgency on the inflation front or that he will be a cautious central banker as he hikes rates -- or both.

"We increasingly see the BoC as behind the curve on inflation," Warren Lovely, chief rate strategist at National Bank of Canada, said in a report. "Will waiting any longer really help the situation? Not likely."

'Series of Steps'

Though Macklem took the reins at the Bank of Canada in June 2020, Wednesday's decision was the first at which hiking was a real option. A new set of quarterly forecasts that accompanied the policy statement showed an economy that is right up against full capacity.

Macklem's repeated statements that hikes are coming illustrate the extent to which the Bank of Canada is uncomfortable with the current level of interest rates. He characterized the decision to drop forward guidance as a "significant" shift in policy that will be part of a "deliberate series of steps" -- a bid to sound hawkish even as he bucked market expectations for a rate hike.

"Everybody should expect interest rates to be on a rising path," Macklem told reporters after the decision.

Market pricing suggests that the communications strategy may have even worked. Investors are still pricing in six rate hikes over next 12 months as before, now starting in March instead of January.

The worry is that even a five-week hold will continue fueling a housing market that's seen record price gains. It could also undermine already wobbly confidence the Bank of Canada is serious about tackling inflation.

A Bloomberg News poll published last month found a large majority of Canadians, or 63.5%, say they lack confidence that inflation will return to more normal levels.

Despite his hawkish tone on Wednesday, critics point out that Macklem was actually prepared to see financial conditions ease by holding rates steady given the market was expecting a hike.

Canada's currency weakened on the news. The difference in yields between two-year U.S. and Canadian government bonds -- an indication of expected monetary stances -- narrowed to its lowest since April last year.

"It is clear that they believed it would be better to have more stimulative financial conditions coming out of this meeting rather than less stimulative conditions," Jean-Francois Perrault, chief economist at Bank of Nova Scotia, said by email. "That is hard to square with his repeated insistence that they were signaling a large shift in policy in their statement."

Macklem reiterated that the Bank of Canada is closely monitoring perceptions of consumer prices, but said it doesn't see evidence yet that inflation expectations are de-anchoring in the longer term.

Expected price gains are a key determinant of actual inflation. Businesses increase prices and workers seek pay raises in part on what they anticipate costs will look like going forward. In other words, the higher inflation is expected to be, the higher it will be.

If the Bank of Canada's decision to forgo a rate hike stokes inflation and wage expectations further, the end result could be a central bank forced to make even more dramatic hikes to bring price pressures under control.

Most Read from Bloomberg Businessweek

  • Market Turmoil Is Ultimate Test of What's Real and What's Not

  • What Happens When Russian Hackers Come for the Electrical Grid

  • The Tragicomedy of Boris Johnson Enters Its Final Act

  • Pharmacy Workers Are the Pandemic's Invisible Victims

  • The Charismatic Developer and the Ponzi Scheme That Suckered San Diego

©2022 Bloomberg L.P.


More Related News

Russia's Whipsaw Week Ends With Default Clock Ticking

(Bloomberg) -- Russia is back in default countdown, with another bond payment in question and the Kremlin fighting to find an escape route.Most Read from...

Reasons to Worry Keep Piling Up for Davos Executives
Reasons to Worry Keep Piling Up for Davos Executives

(Bloomberg) -- War in Ukraine, rampant inflation and now a brewing global food crisis. If attendees at this year's World Economic Forum came to Davos worried...

Russian Wins in Eastern Ukraine Spark Debate Over Course of War
Russian Wins in Eastern Ukraine Spark Debate Over Course of War

(Bloomberg) -- Russian troops are making steady progress in Ukraine's east on the back of more-concentrated artillery and air power, now controlling almost...

Europe's Push to Punish Putin Is Falling Short of the Rhetoric

(Bloomberg) -- As the European Union's impasse over its supposedly imminent Russian oil embargo stretched into days and then weeks, one ambassador quoted...

US, Asian Allies Say Path to Talks With North Korea Still Open
US, Asian Allies Say Path to Talks With North Korea Still Open
  • World
  • 2022-05-28 02:45:17Z

(Bloomberg) -- A path to "serious and sustained dialogue" with North Korea remains open, according to a joint statement by US Secretary of State Antony...

Leave a Comment

Your email address will not be published. Required fields are marked with *

Cancel reply


Top News: Business