Should the Bank of Canada raise interest rates to 2.25%?

That’s what the US Federal Reserve did last month: its interest rate spread increased by three-quarters of a percentage point. It was the largest US interest rate hike since November 1994.

Robert Hogue, Deputy Chief Economist RBCbelieves the Bank of Canada needs to follow suit.

The Bank of Canada urgently needs to pick up the pace as inflation is already very high. We are almost 8%. »

A quote from Robert Hogue, Deputy Chief Economist at the Royal Bank

The economist predicts pretty quick dressing which could push the key interest rate up to around 3% by the end of the year.

It won’t be the last. The Bank of Canada is expected to do so again in Septemberhe said.

Robert Hogue, senior economist at the Royal Bank.

Photo: Radio Canada

The Bank of Canada has already hiked interest rates twice in a row by half a percentage point (or 50 basis points) in April and June, which has not been the case in over 20 years.

The central bank is not ruling out an interest rate hike of three-quarters of a point (75 basis points) on Wednesday. It is possibleDeputy Governor Paul Beaudry said in an interview with economic zone Last month.

Michael Devereux, an economics professor at the University of British Columbia, says that setting a policy rate is not an exact science and that there are several unknown factors.

It is important not to surprise the markets too much. It would be difficult for the bank to justify a smaller increasehe says.

One of the biggest impacts, he says, will be felt in the real estate market. Paying off a mortgage costs more and discourages buyers. The market has already slowed down a lotthe economist starts.

Michael Devereux.

Michael Devereux is an economics professor at the University of British Columbia and a member of the CD Howe Institute’s Monetary Policy Council.

Photo: University of British Columbia

An even more aggressive hike?

Steven Ambler, Associate Professor in the School of EconomicsUQAM and research associate at the institute CD Howe, hopes the Bank of Canada will go further. He recommends an increase of one percentage point and pushes the key interest rate down to 2.5%.

The Bank of Canada, although it has started raising interest rates, is losing ground. »

A quote from Steven Ambler, Associate Professor in the Department of Economics at UQAM

He points out that the gap between inflation and policy rates in Canada is widening, reducing the impact of monetary tightening.

Economist Steve Ambler.

Steve Ambler is an Associate Professor in the Department of Economics at UQAM and a researcher at the CD Howe Institute.

Photo: Emilie Tournevache

Raising an interest rate costs borrowers more, which in principle should calm demand and reduce consumption, particularly in the case of real estate durable goodssuch as cars and household appliances.

But when the inflation rate is higher than the interest rate, those people have the edge, says Ambler. He states that realized inflation is a measure imperfect expected inflation, but that the trend is still worrying.

The real interest rate is the bank interest rate minus the inflation rate. Already at the beginning of the year it was negative and it got even more negative. So if we want to reduce demand to fight inflation, the real interest rate should at least become less negativesays the economist.

$ au début de l’année et que je dois rembourser 105$ à la fin de l’année, c’est un taux d’intérêt nominal de 5%. Si entre temps les prix augmentent de 10%, ce que je dois rembourser à la fin de l’année, en termes de pouvoir d’achat, c’est 95$”,”text”:”Si j’emprunte, mettons, 100$ au début de l’année et que je dois rembourser 105$ à la fin de l’année, c’est un taux d’intérêt nominal de 5%. Si entre temps les prix augmentent de 10%, ce que je dois rembourser à la fin de l’année, en termes de pouvoir d’achat, c’est 95$”}}”>For example, if I borrow $100 at the beginning of the year and have to pay back $105 at the end of the year, that’s a nominal interest rate of 5%. If prices go up 10% in the meantime, I’ll have to pay back $95 in purchasing power terms at the end of the year.he said.

Take last May for example: the policy rate was set at 1% while the inflation rate was 7.7%. The real interest rate was therefore -6.7% this month.

An infographic showing that the real interest rate is calculated by subtracting the inflation rate from the base rate.

Enlarge image (New window)

When inflation is above the policy rate, which is currently the case in Canada, the real interest rate is negative.

Photo: Radio Canada / Colin Roch

A balancing game

But raising rates too aggressively could plunge Canada into recession, argues economist Robert Hogue RBCwhich already predicts a slight decline next year.

It will be a challenge to find the right mix so as not to really jeopardize the stability of the economy.he says.

The big question: Is it possible to control inflation without slowing down the economy? It’s highly unlikely, Hogue said.

It’s a balancing game, it’s very delicate. Indeed, it would require that expenditure or demand grow less rapidly than the productive capacity of the economy.says economist Steven Ambler.

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