US 'drives the bus' on long-term interest rates – but BoC likely to push ahead with cuts, suggests economist
Decision makers at the Bank of Canada could be weighing up possible interest rate cuts in 2024 – but they’re sure to be keeping a close eye on developments south of the border as they consider a timeline for rates to come down.
Signs of a slowing economy, including easing core inflation and a gross domestic product (GDP) contraction in the third quarter, appear to suggest Canada’s central bank can now turn its attention away from possible further hikes and towards lower rates in the coming 12 months.
However, the US economy remains an important factor in the Bank’s decision-making process, according to Dominion Lending Centres chief economist Sherry Cooper (pictured top), particularly with the US “driving the bus” when it comes to long-term interest rates.
The recent marked decline in the Government of Canada five-year bond yield has been a direct result of a US bond rally – but Cooper also said the Canadian central bank won’t necessarily move in lockstep with the US Federal Reserve when it comes to rate decisions in 2024.
“In the US, house prices are rising quite significantly and the US economy is a lot stronger than the Canadian economy,” she told Canadian Mortgage Professional. “So it’s possible that the Bank of Canada will begin to lower interest rates prior to the Fed doing so.”
BoC still likely to push ahead with rate cuts
Earlier in the year, the Bank of Canada decided to hit pause on its benchmark rate while the Fed continued on the rate-hiking warpath.
The Bank hastily reversed that course over the summer, introducing back-to-back rate hikes to curb an unexpected housing market revival – but recent indicators suggest the economy has cooled sufficiently to justify pushing ahead with rate cuts in Canada, Cooper said.
“I think that the economy is now slow enough in Canada and inflation pressures are continuing to decline,” she said, “so there’s a very good chance that we’ll see the Bank of Canada begin to cut the policy rate as well ahead of the Fed, and probably in the first half next year.”
The Bank of Canada diverging from the Fed in the spring was flagged as a potential cause for concern by some observers who emphasized its potential to harm the Canadian dollar against the greenback.
#BreakingNews: Bank of Canada governor Tiff Macklem has said interest rates may be high enough to continue taming inflation in remarks that suggest the central bank could be at the end of its rate-hiking path.https://t.co/ItcymEjGWw#ratehikes #interestrates #inflation
— Canadian Mortgage Professional Magazine (@CMPmagazine) November 22, 2023
Still, the prospect of the Canadian central bank forging its own path on interest rates in 2024 is likely an unproblematic one, Cooper said, with little chance of drastic rate cuts that might spook markets or pummel the loonie.
“There isn’t a big risk, because the Canadian economy has weakened and is weaker than the US – and our economy is far more interest-sensitive than the US economy because people can’t lock in mortgage rates for 30 years,” she said.
“Those are two fundamental factors that would argue for the Bank of Canada lowering rates more aggressively than the Fed. Having said that, though, I do not believe that they’ll take rates down to pre-COVID levels. That is very unlikely.”
Hopes rise for ‘soft landing’ on both sides of the border
The US economy has also slowed in recent weeks, with lower consumer spending, employment figures and cooling inflation all suggesting it’s beginning to lose steam.
While economic growth for the third quarter in the US was revised upwards to an annual rate of 5.2%, Q4 is expected to see further moderation – and treasury secretary Janet Yellen indicated last Thursday (November 30) that she believes significant further monetary tightening is not required to get inflation back on track.
That raised hopes that the US could be set to achieve a much-vaunted “soft landing,” by which the Fed would cool the economy enough to bring inflation back close to its 2% target without risking a sharp downturn.
Canada, too, could be on course to avoid a steep recession. The economy contracted by 1.1% in Q3 compared with the previous year, according to data released by Statistics Canada last week – but it avoided the technical definition of a recession thanks to revised April-to-June figures that showed growth of 1.4%, compared with the originally announced 0.3% drop.
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