What happened: The Bank of Canada held its target for the overnight rate at the effective lower bound of 0.25 per cent, with the bank rate at 0.5 per cent and the deposit rate at 0.25 per cent. The Bank also maintained its quantitative easing program, retaining a commitment to buying $3 billion in bonds each week.
The official statement was thoroughly rewritten, but the meaning was unchanged: Between the April decision and now, the Bank’s views remained fundamentally intact – after a short period in which shutdowns impact growth and inflation moves above target, the economy is expected to rebound strongly. Incoming data show that the output shock experienced during the third wave of COVID-19 infections was bigger than anticipated, but “the underlying details indicate rising confidence and resilient demand”. Consumption is expected to surge in the second half of this year and remain robust.
The Bank expects inflation, which is already sitting above the upper target range, to remain temporarily elevated throughout the summer, with base-year effects fading over time. Once the slack in the economy is absorbed, the bank sees price growth returning to 2 per cent – sometime in the second half of 2022.
Markets shrugged: The decision was in line with expectations, and the Canadian dollar remained rangebound, falling very modestly after the announcement.
But the Bank of Canada remains an outlier: In focusing purely on achieving inflation targets (in contrast with its US counterpart), the Bank’s more hawkish stance is enhancing Canada’s attractiveness to global capital flows, pushing the loonie inexorably upward.
Yield differentials remain twisted: Canadian two-year bonds are trading at a 17 basis point premium relative to their US equivalents, while 10-years are at a 9 point discount – suggesting that Canada is expected to recover more quickly, but ultimately grow more slowly than the United States.
What’s next: The next full update of the Bank’s outlook for the economy and inflation, including risks to the projection, will be published on July 14.
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