Fast Rate Hikes Recommended

CD-Howe C.D. Howe put out this paper last week urging the Bank of Canada (BoC) to raise rates aggressively once its rate hike moratorium ends on June 30.

The report stated:

  • “The Bank (of Canada) should keep its conditional commitment, but should thereafter raise the overnight rate sharply by 50 basis points at every announcement date (after June 2010) until mid-2011.”
  • If inflation continues to rise, the BoC should be prepared to hike rates proportionately more. (This assertive policy style is based on the “Taylor Principle”–(after U.S. economist, John B. Taylor).
  • Heading off inflation will necessitate “aggressive” rate increases (50 basis points per BoC meeting), starting this summer.

Whether the BoC heeds this advice is another matter.

The Bank’s next interest rate meeting is tomorrow.  Virtually every major economist expects no near-term change in Canada’s key lending rate.

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About The C.D. Howe Institute:  C.D. Howe is a national, nonprofit organization that “aims to improve Canadians’ standard of living by fostering sound economic and social policy.” The Institute promotes the application of independent research to major economic and social issues, by leading experts.

  1. Given the headline economic news this morning (Canadian GDP expanded at a 5.0% annual clip in the 4th Q of 2009), it’s not out of the question.
    I’m the fortunate holder of a P minus 0.95 variable myself, but I’d much rather the Bank do whatever it has to do to keep inflation in check. It’s much less costly to an economy to keep it from going up than to get it to go down after the fact.
    Al R

  2. This is all posturing… let’s see the economy grow without needing tens of billions in government stimulus first before saying that things are heating up.

  3. Kevin,
    I read somewhere that in the 1930’s, the US economy had no fewer than 20 qtrs of 5%+ GDP growth.
    Of course the problem is that there were also a lot of qtrs with 5%+ decreases.
    In 2009 we’ve had a Q1 6% decrease and a Q4 5% increase.
    I think these sorts of dramatic swings are very unhealthy and merit caution.

  4. Rate increases will be slow and measured, if the separation between Canada and US rates becomes too great, our dollar spikes, our exports become expensive and our nascent recovery is extinguished. We are recovering based on stimulus at this stage, not fundamentals, and there can be no significant rate move while they are pumping cash into the economy for risk of really overheating.

  5. The U.S. GDP grew by 5.9% (annualized) in the same quarter and I think a large majority would agree the U.S. is not yet anywhere close to a sustained recovery. Likewise, the Cdn GDP had a sharp drop this time last year so got to believe that much of this GDP increase has to do with recovering auto manufacturing sector, healthy consumer demand, Olympics and stimulus money.
    Sounds like grandstanding by C.D. Howe Institute and who has always had an obsession with the BofC 2% inflation target.

  6. A 5% GDP increase coming out of recession is not to be taken lightly. Nor should you dismiss the BOCs fixation on a 2% inflation target. Today’s numbers will put the BOC on edge and raise the chances of a summer tightening.

  7. “A 5% GDP increase coming out of recession is not to be taken lightly.”
    Problem is that we have a $55 billion deficit because of stimulus efforts.
    Every stimulus dollar that the govt borrows into existence to pay someone to dig a hole adds to our GDP. That the hole may have been unnecessary or even dangerous is not on the radar for “economic recovery” folks.
    There is a good case to be made that the instant this stimulus spending stops, we will be right back into economic freefall (as measured by GDP and employment numbers).
    So I don’t think the immediate pressure will be there to jack up the rates.
    I think a lot of officials are trying to create the impression of a pending wave of inflation to goad people into spending money or better yet, borrowing money to spend before prices and rates go up again. This private sector spending would be a more like a real recovery since the money would be spent on things real people want rather than on what the govt thinks we ought to want.
    I expect we will be told stories of immanent rate hikes for quite a while to come.

  8. here we go again. More of this ‘imminent rate hike’ hype. They’ve been full of these sorts of stories for a full year now. Its NOT going to happen. We had a spike in GDP at the tail end of 2009 due to all the artifical stimulus pumped into Canadian and US economies. Once that peters out – which is going to be pretty soon, then we’ll see what sort of real demand there is out there. And from what I’m seeing there is precious little. Companies are still laying off or at best cutting costs and not hiring anyone new. Canada is doing better than the US, due mainly to stable housing conditions but as the stimulus effect wears off I think you’ll see that end of 2009/beginning of 2010 gdp numbers to be the top of the spike and things will be very flat for the next 12 to 24 months.
    Governments would LOVE there to be some real sustained growth in the economies but that requires real sustained job growth and private sector companies to begin ramping up new projects again – many of the ones they abandoned in the last 2 years. I’m still seeing wages getting cut across the board and thats hardly likely to lead to people spending more and saving less, so again this would appear to be more ‘hope’ than substance.
    Look at rates continuing to fall the past few months when we were assured of the opposite….
    Come back in 6 months and likely they will be exactly where they are now – again.

  9. to back up my point, new rate REDUCTIONS announced today on 1 year and 3 year rates down to 2.35 and 3.25% respectively on canequity web site.

  10. Al you say “Its NOT going to happen.”
    You have no idea what will happen. No one does.
    The media can’t “assure” anyone of anything. It is all just opinion. The opinion of rates going up is just as valid as your opinion that rates will stay put.
    For what it’s worth though, I haven’t seen any major economists agree with your assertion that bond yields will not go up in the next 6 months.
    Dave
    P.S. Canequity’s website reductions mean nothing. Lower rates have been available for weeks now.

  11. Dave, you’re absolutely right, it is all just opinion. But the fact is that these experts ‘opinions’ have been consistently wrong for up to 12 months now. They keep saying rates are going to rise and they just DO NOT. Look at the 5yr or the 10 yr bond yields. Pull up a chart – they’ve gone nowhere in a year since edging off the bottom.
    They go up a few points, down a few points. Thats because we’re in the trough of a major recession / depression. They keep trying to jump the gun by ‘guessing’ when we’ll end this trough. One decent quarter fueled by artifical stimulus in no way constitutues any kind of sustainable recovery. The Bank of Canada would be insane to start raising rates before a TRUE and sustainable recovery takes hold. In my opinion we are a LONG way from that point. Its merely posturing. A rising Canadian dollar in itself puts the brakes on inflation.
    Don’t take my word for it. Come back in 6 months and see what the rates are. I was posting this 6 months ago and people were pooh-poohing the notion and telling us that rates were ‘bound’ to rise in the near future. They are not ‘bound to’ at all. They can do up and down or they can stay exactly the same. Air Canada announced today its laying off 1,000 people and IBM are doing worldwide layoffs again, announced today. If this is the beginning of a recovery, then I’d be amazed.

  12. It doesn’t take much insight to criticize forecasts after the fact.
    It’s like saying you should have bet on black after the ball drops on red.
    That part of your commentary is useless IMO…

  13. kevin, not sure if you were replying to me or not but as I already stated, I made the same comments 6 months ago, so I’m not criticising after the fact but instead at the same time as these experts make their grand predictions (which to date have all proved dead wrong).
    regards
    Al

  14. Al… can you point out any noted economists that have said that rate hikes were imminent?
    When the head of the BoC makes a conditional commitment to keep rates low, you can bet that people will start talking about it. But that’s all they’ve done — talk. In the past 12 months, I don’t know of any economist who’s actually made a prediction that rates will go up before second quarter of this year.

  15. @ Al – You seem to have a fundamental misunderstanding of how monetary policy operates. Given the time lag between the point at which the BoC makes a change, and the point at which it impacts real GDP, policy makers have to be forward looking. The rule of thumb is it takes approx. 9 months for a move to begin to impact real GDP, and 18-24 months before the entire impact is felt. So they’re looking at best estimates for 2011 and beyond.
    Waiting until “a TRUE and sustainable recovery takes hold” (something that can only be known for certain several months after the fact) would probably have seriously detrimental effects on the economy. Once inflation takes hold, it’s VERY painful to get rid of.
    Al R

  16. Since US auto sales (feb) went down 4% to just over 10 million units (about 1980’s levels) Non-farm payrolls will be bad this Friday.
    Higher rates will mean a very high Canadian dollar which means more bailout money for manufacturing, in Ontario and Quebec. Is that what the BOC wants?

  17. Central bankers know what the “price” of money should be about as well as any other central planner knows what the price of orange juice ought to be.
    The monument to their collective brain trust is the recent popping of a worldwide real-estate and commodities bubble big enough to nearly shut down the financial system of the entire world.
    Somehow we are already right back to respecting these people and treating those who question them as being more than a little arrogant.
    The central bankers will never be able to control inflation because they either don’t know how to measure it or don’t want to for political or ideological reasons.
    The “core” inflation numbers were invented in the late 70s to save the jobs of Phillips curve readers who couldn’t figure out how high inflation and unemployment could co-exist. They just took out the stuff that goes up in price and voila, low inflation!
    If house prices were included in CPI in the US, inflation would have been FAR above the 2% “target” rate (over 20% in California at times) forcing the FED to raise rates and end the bubble much sooner. They didn’t see the bubble because they didn’t want to.
    You can bet that the decision about when to raise rates will be made by people under great political pressure with horribly mangled data. It will have nothing to do with price stability or low inflation or high employment or anything else central bankers have done such a poor job or managing for so long.

  18. Al R
    Excellent point. Many people believe the Bank of Canada acts after inflation goes up. They don’t. They have always acted preemptively. We will see bankers’ acceptance yields reflect this when they start to rise well in advance of the first rate hike.
    JW

  19. To say the Bank of Canada has “horribly mangled data” is nowhere close to accurate. The Bank of Canada has access the very best economic data and advisers in the Canada. They also have a well established track record of monetary policy success since the dawn of their inflation targeting policy.

  20. “The Bank of Canada has access the very best economic data and advisers in the Canada”
    They dont know what inflation is, or how to measure it.
    The data is “mangled” because of this, not because they lack the ability to collect data. If they carefully ignore the price of food and fuel and houses (or whatever else they choose to ignore) they can always hit their targets. There are inflation adjustments called “hedonics” that allow “the worlds best data collectors” to count free chequing accounts as a type of “deflation” to be put against other prices which are rising. They can make any inflation number they want.
    ” They also have a well established track record of monetary policy success since the dawn of their inflation targeting policy.”
    The price of oil went from about $40 to about $120 and the price of houses went up around 50% nation wide in a few short years, and yet we had “low inflation”. I guess people who had money in a GIC earning 3% were gaining ground the whole time since inflation was around 2%. Except that they were much poorer…

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