By Steve Scherer and David Ljunggren
OTTAWA (Reuters) – The Bank of Canada needs more evidence to gauge if interest rates are high enough to tame inflation, in part because the economies of major trading partners are doing better than forecast, Senior Deputy Governor Carolyn Rogers said on Thursday.
On Wednesday, the bank left its key overnight interest rate on hold at 4.50%, becoming the first major central bank to suspend a tightening campaign as inflation eases. Inflation slowed to 5.9% in January, still far above the BoC’s 2% target.
The BoC has said it will hold rates as long as inflation drops as it forecast in January, hitting 3% at about mid-year. Data since then have painted a “mixed picture,” Rogers said.
“We’ll still need more evidence to fully assess whether monetary policy is restrictive enough to return inflation to 2%,” Rogers said in a speech in Winnipeg to the Manitoba Chambers of Commerce. “If evidence accumulates suggesting inflation may not decline in line with our forecast, we’re prepared to do more.”
Money markets are almost fully pricing in another rate hike by September.
Rogers later told reporters the bank still believed the economy was dealing with excess demand, adding it would take some time before balance was restored.
Part of the challenge is an “incredibly tight” labor market at a time when productivity is slipping.
“(This) is a recipe for pressure on wages, which is what we’re worried about, because that will make it difficult to get back to our 2% inflation target,” she said.
The January jobs report was much stronger than forecast, but gross domestic product stalled in the fourth quarter – coming in far weaker than the 1.3% annualized growth forecast by the BoC.
“It looks like the central bank’s pause is on shaky ground and it wouldn’t take all that much additional evidence to spur them back into action,” said Royce Mendes, head of macro strategy at Desjardins.
In her speech, Rogers noted economic growth and inflation outlooks for both the United States and Europe were higher than the BoC had expected in January.
“Since these are our main trading partners, this could point to some further inflationary pressure in Canada,” Rogers said.
Over the past year, the central bank raised rates eight times in a row by a total of 425 basis points to tame inflation, which peaked at an annualized rate of 8.1% last year.
The BoC expects near-zero growth for the first three quarters of 2023.
The Canadian dollar was trading nearly unchanged at 1.38 to the greenback, or 72.46 U.S. cents, holding near its weakest in nearly five months.
Money markets expect the BoC’s policy rate to peak at about 4.75% this year, or roughly 90 basis points below the expected end point of the U.S. Federal Reserve.
(Reporting by Steve Scherer and David Ljunggren; additional reporting by Fergal Smith in Toronto; Editing by Leslie Adler and Deepa Babington)