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Bank of Canada Preview: Omicron Throws Rate Hike Forecasts into Question

While markets are pricing in the first Bank of Canada rate hike by March, some economists say the uncertainty of the new Omicron Covid-19 variant could put that timing into question.

“Omicron threatens to delay some [central bank rate hikes], but market pricing is still generally ahead of our expectations for tightening next year,” noted RBC senior economist Josh Nye.

Bank of Canada Deputy Governor Lawrence Schembri said as much in a speech last month: “There’s a lot of uncertainty about the timing of the closing of the output gap, so one should be careful not to assume it’s necessarily going to be the second quarter.”

Looking out to next year, overnight index swap (OIS) markets are expecting five quarter-point rate hikes by October, which would bring the Bank of Canada’s overnight target rate to 1.50%.

When the Bank of Canada’s Governing Council meets on Wednesday to deliver its final rate decision of 2021, it will also have to weigh the latest inflation, GDP and employment figures, among other data, and consider how that will impact the ongoing economic recovery.

While no rate movements are expected this week, all eyes will be on the BoC’s statement for its take on how all of the above may impact the timing of imminent 2022 rate hikes.

Here’s a look at what some economists expect from the BoC at its upcoming meeting this Wednesday:

On rate hike expectations:

• NBC: “…we think the central bank will avoid raising its policy rate too quickly out of fear of triggering an abrupt landing of the housing market… We note that last August, a record 54% of new mortgage loans granted by banks (new purchases, renewals and refinancing) were at variable rates (vs. 11% in 2019), suggesting that under current conditions the housing market is especially sensitive to a rise of the policy rate.” (Source)
• RBC: “Recent inflation and GDP data are consistent with the BoC’s October forecasts, and we continue to look for interest rate liftoff in April 2022. We think markets are over-priced for BoC tightening next year and expect Canada-US spreads will narrow in 2022.” (Source)
• TD: “Both the BoC and the Fed are focused on employment gains, with the goal of closing in on maximum employment. But, threading the needle in an already elevated inflation environment could lead to a policy error. Central bankers are mindful that risks are two-sided. Hiking a little earlier and leaving sufficient time between policy decisions to monitor outcomes helps to mitigate the adverse impact of leaving policy rates too low for too long. The yield curve will continue to respond as the months roll forward, putting upward pressure on a wide array of lending rates from corporate bond yields to individual mortgage rates. The time for patience on monetary policy is ending.” (Source)
• CIBC: “With COVID still a headwind to growth in the next couple of quarters, we see the Canadian GDP and employment track under-performing the Bank of Canada’s call, which would lean towards the first rate hike at near mid-year, rather than, as the market has it, in Q1.” (Source)

On inflation:

• RBC: “Inflation continues to rise across advanced economies, with year-over-year rates eclipsing last cycle’s highs. Rising energy prices are a factor though inflationary pressure is broadening and capacity pressures are growing in a number of the economies we track.” (Source)
• Edge Realty Analytics: “Core inflation may accelerate for a few more months based on business pricing plan survey and surging raw material input costs…I expect headline inflation will still remain above the upper boundary of the BoC’s target band of 1-3%, but that’s not likely to translate into the sort of rate hikes markets are currently expecting.”

On GDP:

• TD: “After a disappointing second quarter (one that was made worse by revisions), the Canadian economy rebounded soundly in the third. The reopening of provincial economies and the ramp-up in vaccinations propelled strong consumption growth…Looking ahead, the good news is that global supply chain issues are showing signs of easing…The bad news is that new headwinds are forming for the Canadian economy. Flooding in B.C. is wreaking havoc on communities, farmlands, and shipping routes. This will undoubtedly weaken near-term growth.” (Source)
• Desjardins: “Economic growth in the fourth quarter of 2021 appears to be off to an encouraging start, but flooding in British Columbia has exacerbated supply issues. On average, 2021 could see expansion of 4.5%, followed by gains of 3.9% in 2022 and 3.1% in 2023.” (Source)

On employment

• TD: “November’s job report will be impossible to ignore for the Bank of Canada. Throughout the pandemic, the Bank had stressed that it would keep the overnight rate low until the labour market recovery was complete. With last month’s release, it’s safe to say we’re nearly there…Given tighter labour market conditions, stronger price pressures, and hot housing market activity, we can’t discount the possibility the Bank may choose to hike as early as January.” (Source)

Bank of Canada Interest Rate Forecasts

• Steve Huebl·Mortgage Broker News·December 7, 2021
• https://www.canadianmortgagetrends.com/2021/12/bank-of-canada-preview-omicron-throws-rate-hike-forecasts-into-question/

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