With inflation plunging to its lowest level in three and a half years, economists say the Bank of Canada should drastically slash interest rates next week in order to kickstart a sputtering economy.
The annual rate of inflation — as measured by the Consumer Price Index — fell to 1.6 per cent in September, down from two per cent in August, pushed largely by falling gasoline prices, Statistics Canada announced Tuesday.
It’s at its lowest since inflation was at 1.1 per cent in February 2021, and well below the Bank’s two per cent target.
A consensus of economists surveyed by Bloomberg had expected the data to reveal inflation fell to 1.9 per cent.
It’s just the latest sign the Canadian economy is grinding to a halt, said Matthieu Arseneau, an economist at National Bank.
“The Canadian economy needs oxygen from the central bank to stabilize,” said Arseneau, after the inflation numbers were released. That oxygen, he added, should be in the form of a larger cut to the Bank’s key overnight lending rate, which currently sits at 4.25 per cent.
Tuesday’s release is the last major piece of economic data to drop before the Bank’s next interest rate announcement on Oct. 23
The Bank has now cut its overnight rate by 25 basis points — a quarter of a percentage point — three meetings in a row.
The Bank raised rates 10 times between March 2022 and last summer in a bid to wrestle inflation down to its two per cent target. Inflation peaked at 8.1 per cent in June 2022 as the Canadian economy opened back up from COVID-related restrictions.
The theory is that by making it more expensive to borrow money, consumers and businesses will spend less, driving down prices and slowing the economy.
Now, as the economy slows and inflation has been heading mostly downward, the Bank is taking the reverse approach, trying to stimulate growth by cutting rates.
The prospect of more interest rate cuts is one reason there’s likely to be a 9.9 per cent rise in sales in Ontario’s residential real estate market next year, according to a report also released Tuesday by the Canadian Real Estate Association.
The deeper than expected slowdown in inflation helps pave the way for the bank to cut more deeply, said BMO chief economist Douglas Porter. Taken together with other recent data, said Porter, the inflation numbers paint a picture of a faltering economy.
“We suspect that the big improvement in inflation, the still-high unemployment rate, and the still-sour consumer and business sentiment will be enough to prompt the Bank of Canada to opt for a 50-basis-point rate cut later this month,” said Porter.
Porter pointed out that trading on the overnight interest swaps market is now pricing in a 70 per cent chance of a 50-basis-point cut next week, compared with a 50 per cent chance before the inflation data was released.
The Bank might even be pondering whether it went too far with rate hikes in its battle against inflation, argued Pedro Antunes, chief economist at the Conference Board of Canada.
“I think the Bank could start to realize that maybe it hit the economy too hard,” said Antunes. “The economy really is quite weak. The only thing that’s been propping it up has been population growth.”
Andrew DiCapua, senior economist at the Canadian Chamber of Commerce, said there’s no question it’s time for the Bank to pick up the pace of cuts.
“With inflation falling below the Bank of Canada’s forecast, it’s time for them to act boldly with a 50-basis-point cut,” said DiCapua. “This is the final signal they’ve been waiting for to recalibrate toward a lower policy rate.”
The Bank of Canada needs to be far more aggressive with rate cuts than it has been, argued National Bank’s Arseneau. At 4.25 per cent, the overnight rate is more than a full percentage point above where it needs to be, said Arseneau. A “neutral” rate, which neither restricts the economy nor encourages greater growth, is what the Bank should be aiming for, Arseneau added.
“The door is wide open for the Bank of Canada to bring its policy rate back to neutral (between 2.5 per cent and three per cent) as quickly as possible,” Arseneau wrote, while predicting the Bank will make two 50-basis-point cuts: one next week, and one at its December meeting.
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