Bank of Canada Holds Steady, Recognizing that Shelter Inflation is the Issue

• The Bank of Canada maintained the overnight rate at 5.0%, while stating that it will continue with quantitative tightening (QT).
• The Bank highlighted the slowing in economic momentum stating, “the economy has stalled since the middle of 2023 and growth will likely remain close to zero through the first quarter of 2024”. The Bank also noted that the labour market has cooled, “with job vacancies returning to near pre-pandemic levels and new jobs being created at a slower rate than population growth.”
• On the inflation outlook, it “expects inflation to remain close to 3% during the first half of this year before gradually easing, returning to the 2% target in 2025.” It highlighted that “while the slowdown in demand is reducing price pressures in a broader number of CPI components and corporate pricing behaviour continues to normalize, core measures of inflation are not showing sustained declines.”
• On the future path of policy, the Bank is still concerned about the “persistence in underlying inflation (and the) Governing Council wants to see further and sustained easing in core inflation.”

Key Implications

• The Bank of Canada held the line today, but is starting to shift its tone in stronger acknowledgement of the problematic forces of shelter costs. Since the spring, BoC rhetoric has focused on the clear signs of weakness within the economy and this was feeling long in the tooth, now complemented by the dichotomy occurring between shelter costs and the opposing price dynamics elsewhere in the economy. What we know is that Canadians have cut spending over the last year (on a per person basis) as high rates have tightened consumers’ purse strings. Normally this would cause inflation to decelerate quickly, but structural imbalances in the real estate sector are keeping the BoC’s preferred inflation gauges elevated. Importantly, this factor was a big focus of today’s policy statement and had its own section in the MPR – an issue we called out in our early-January report.
• While the Bank isn’t yet ready to signal a change in policy, markets are taking the lead. Odds are pointing to the first rate cut happening in April/June. We echo this sentiment. The BoC’s tight policy has caused the economy to flatline since last summer, which has quickly pushed the job market back into balance. Even the BoC’s quantitative tightening policy looks to have potentially gone too far with market overnight rates continuing to drift from the Bank’s target rate. With this alongside the realization that the BoC can’t set policy just based on elevated shelter inflation, it is clear that the central bank is getting ready to signal a rate cut in the coming months.