Bank of Canada Rate Hike Surprises to the Upside

The Bank of Canada hiked its key overnight lending by 1% on Wednesday, the biggest single increase since 1998 and topping trade expectations. 

The fourth since March, the latest increase brings the bank’s rate to 2.5% as it tries desperately to cool an inflation rate running at its highest in 40 years. Heading into today’s rate announcement, most market analysts and economists were expecting a more modest increase of 0.75%. And even with a bigger rate increase than expected, it appears more hikes are still on the way. 

“The (Bank) continues to judge that interest rates will need to rise further, and the pace of increases will be guided by the Bank’s ongoing assessment of the economy and inflation,” it said in its statement. 

The Bank admitted inflation in Canada has been higher and more persistent than expected and will likely remain around 8% in the next few months – far above its 2% target. While global factors such as the war in Ukraine and ongoing supply disruptions have been the biggest drivers, domestic price pressures from excess demand are becoming more prominent, it added. 

With more consumers and businesses expecting inflation to be higher for longer, it also raises the risk that elevated inflation becomes entrenched in price- and wage-setting, the Bank said. 

“If that occurs, the economic cost of restoring price stability will be higher.” 

With the economy clearly in excess demand, inflation high and broadening, and more businesses and consumers expecting high inflation to persist for longer, the Bank said it went with the larger-than-expected rate hike. 

The Bank said it expects inflation to start to come back down later this year, easing to about 3% by the end of next year and returning to the 2% target by the end of 2024. 

Farmers are already facing sharply higher costs for things like fertilizer and fuel. Higher borrowing costs will only add to those woes. 

According to a Statistics Canada farm income report in May, nationwide farm debt at the end of last year stood at just over $129 billion, up about $8.6 billion or 7.1% from a year earlier. This past year’s increase in farm debt easily outpaced the $5.34 billion or 4.6% increase recorded in 2020. National farm debt has risen every year since 1993.