Bank of Canada Maintains Overnight Rate at 4.5% Despite Easing Inflation, Tight Labor Markets, and Strong Economic Growth Globally

On April 12, 2023, the Bank of Canada announced that it would maintain its target for the overnight rate at 4½%, with the Bank Rate at 4¾% and the deposit rate at 4½%. The Bank also decided to continue its policy of quantitative tightening. This announcement comes as no surprise to market watchers, as it reflects the Bank's ongoing efforts to balance inflation and economic growth.

Inflation in many countries has been easing recently, due to lower energy prices, normalization of global supply chains, and tighter monetary policy. However, the Bank notes that labour markets remain tight, and measures of core inflation in many advanced economies suggest persistent price pressures, particularly for services. In Canada, demand continues to exceed supply, and the labour market remains tight. Despite acute labour shortages starting to ease, wage growth is still elevated relative to productivity growth.

Global economic growth has been stronger than anticipated, with growth in the United States and Europe surprising on the upside. However, as tighter monetary policy continues to feed through those economies, growth is expected to weaken. In the United States, recent stress in the banking sector has tightened credit conditions further. US growth is expected to slow considerably in the coming months, with particular weakness in sectors that are important for Canadian exports. Meanwhile, activity in China’s economy has rebounded, particularly in services. Overall, commodity prices are close to their January levels. The Bank’s April Monetary Policy Report (MPR) projects global growth of 2.6% this year, 2.1% in 2024, and 2.8% in 2025.

In Canada, economic growth in the first quarter looks to be stronger than was projected in January, with a bounce in exports and solid consumption growth. While strong population gains are adding to labour supply and supporting employment growth, as more households renew their mortgages at higher rates and restrictive monetary policy works its way through the economy more broadly, consumption is expected to moderate this year. Softening foreign demand is also expected to restrain exports and business investment. Overall, GDP growth is projected to be weak through the remainder of this year before strengthening gradually next year. The Bank now projects Canada’s economy to grow by 1.4% this year and 1.3% in 2024 before picking up to 2.5% in 2025.

CPI inflation eased to 5.2% in February, and the Bank’s preferred measures of core inflation were just under 5%. The Bank expects CPI inflation to fall quickly to around 3% in the middle of this year and then decline more gradually to the 2% target by the end of 2024. Recent data is reinforcing Governing Council’s confidence that inflation will continue to decline in the next few months. However, getting inflation the rest of the way back to 2% could prove to be more difficult because inflation expectations are coming down slowly, service price inflation and wage growth remain elevated, and corporate pricing behaviour has yet to normalize. As it sets monetary policy, Governing Council will be particularly focused on these indicators, and the evolution of core inflation, to gauge the progress of CPI inflation back to target.

In light of its outlook for growth and inflation, Governing Council decided to maintain the policy rate at 4½%. Quantitative tightening continues to complement this restrictive stance. Governing Council continues to assess whether monetary policy is sufficiently restrictive to relieve price pressures and remains prepared to raise the policy rate further if needed to return inflation to the 2% target.

The Bank remains resolute in its commitment to restoring price stability for Canadians.