In line with financial market expectations, the Bank of Canada announced on January 17, 2018 it was raising its trend-setting overnight lending rate by a quarter point to 1.25%.
Although the interest rate hike comes amid solid Canadian economic data, the Bank expects economic growth to slow from this point forward. Additionally, the Bank highlighted a number of reasons why the timing of future rate hikes this year and next is by no means set in stone.
Chief among these was uncertainty surrounding the renegotiation of NAFTA, which the Bank said “is weighing increasingly on the outlook.” Indeed, the Bank is already attributing some negative impact on business investment and trade to the issue in its forecast. Failure to renegotiate NAFTA would likely raise the likelihood that the Bank would lower interest rates.
The Bank also suggested that strong demand could mean the economy has more potential for growth than previously thought. If so, stronger economic growth would put less upward pressure on inflation and lessen the need by the Bank to raise interest rates to quell inflation.
Despite strong job growth, wage growth remains tepid. This also lowers upward pressure on consumer price inflation and reduces the Bank’s need to raise interest to keep inflation to its 2% target.
The Bank also said it expects residential investment to be roughly flat over the next two years due to higher interest rates and tightened mortgage regulations that came into effect on January 1.
The Bank also indicated that some of the strength in resale housing activity toward the end of 2017 may reflect homebuyers who were determined to purchase before tighter mortgage regulations took effect. The flipside of that pull-forward in demand could be slower home sales activity in the first half of 2018.
The Bank again cautioned that future interest rate increases will depend on incoming economic data and the outcome of NAFTA renegotiations.
As of January 17, 2018, the benchmark five-year lending rate stood at 5.14%, up from 4.99% at the time of the Bank’s December 6, 2017 announcement. As of January 1, 2018, all mortgages must qualify at, at a minimum, the benchmark five-year lending rate.
Canada’s major chartered banks have recently raised their advertised five-year fixed mortgage interest rates, which now range between 3.54% and 5.14%. However, actual five-year fixed mortgage interest rates can be negotiated below advertised rates depending on mortgage applicants’ creditworthiness and the degree to which they do other banking business with the mortgage lender.
The next interest rate announcement will be on March 7, 2018. The next Monetary Policy Report, which updates the Bank’s economic forecast, will be released April 18, 2018.