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As was widely expected, the Bank of Canada today delivered another quarter-point rate hike today, bringing its benchmark rate to a 22-year high of 5%. However, markets are continuing to price in the likelihood of an additional rate hike in September.

In its statement, the Bank said it made the decision “in light of the accumulation of evidence that excess demand and elevated core inflation are both proving more persistent.”

It added that Canada’s economy has been “stronger than expected,” with an ongoing momentum in demand. It pointed to “surprisingly strong” consumption growth of 5.8% in the first quarter.

Not the last hike?

In a press conference, Bank of Canada Governor Tiff Macklem said the Bank is trying to balance the risks of over- and under-tightening.

“If new information suggests we need to do more, we are prepared to increase our policy rate further,” he said. “But we don’t want to do more than we have to.”

However, economist from ING say “the the tone of the statement suggests the BoC [is] not convinced it has done enough yet, so we will need to see significant softness in activity, labour and inflation numbers to prevent another move.”

They add that the market is currently pricing around a 75% chance of another hike at the September meeting.

BMO’s Douglas Porter called today’s announcement “moderately hawkish.”

“The BoC is certainly not closing the door on the possibility of further moves,” he wrote. While he’s not yet forecasting another rate hike, he said BMO has now pushed its forecast for the first rate cut to the second quarter of 2024, one quarter later than originally expected.

Growing pain for variable-rate borrowers

This latest increase means prime rate is expected to rise to 7.2% in the coming days, further raising interest costs for borrowers with variable-rate mortgages and personal and home equity lines of credit (HELOCs).

With the Bank’s latest rate increase, variable-rate borrowers have now seen their monthly interest cost skyrocket by $265 for every $100,000 worth of mortgage.

With the average mortgage size of roughly $312,000, according to figures from Equifax, that works out to $827 more in interest each month.

It’s a load that is becoming increasingly difficult for borrowers to absorb, said Mortgage Professionals Canada President and CEO Lauren van den Berg.

In a statement posted online, van den Berg said this latest rate hike “could very well be the straw that breaks many borrowers’ backs.”

“As the voice for mortgage professionals across the country, Mortgage Professionals Canada is deeply concerned about the impact of 22-year high rates on Canadian homeowners, without a clear policy response from decision-makers to address housing affordability,” she added. “Today’s increase will only add further stress to existing variable-rate holders as well as fixed-rate borrowers when it comes time to renew their mortgage.”

Updated forecasts in the latest Monetary Policy Report

And on the inflation front, although there has been a “welcome” drop from 8.1% last June to May’s 3.4% reading, the Bank said “underlying price pressures appear to be more persistent than anticipated,” pointing to the three-month average of core inflation running between 3.5% and 4%.

In its updated Monetary Policy Report (MPR), the bank added that a “faster-than-expected” pickup in house prices, combined with a lack of supply, had pushed prices higher than anticipated in January.

“The previously unforeseen strength in house prices is likely to persist and boost inflation by as much as 0.3 percentage points by the end of 2023, compared with the January outlook,” it noted.

Here are some of the highlights from the MPR:

Inflation

The Bank sees headline inflation hovering around 3% for the next year before gradually declining to 2% by the middle of 2025. However, “Governing Council remains concerned that progress towards the 2% target could stall, jeopardizing the return to price stability,” the bank said in its statement.

  • 3.7% in 2023 (vs. 3.5% in its previous forecast)
  • 2.5% in 2024 (vs. 2.3%)
  • 2.1% in 2025 (vs. 2.1%)

GDP forecast

The Bank now expects annual economic growth of:

  • 1.8% in 2023 (vs. 1.4% in its previous forecast)
  • 1.2% in 2024 (vs. 1.3%)
  • 2.4% in 2025 (vs. 2.5%)

Household financial health

Looking at the health of mortgage borrowers, the Bank noted that despite the rise in debt-servicing costs, “the financial positions of many households remain healthy,” due in part to strong labour markets and the buildup of savings since the beginning of the COVID-19 pandemic. “For these households, higher interest rates are unlikely to lead to severe financial stress or have disproportionately large effects on their spending,” it added.

However, while delinquency rates remain near all-time lows, the Bank said the share of borrowers moving from 60 to 90+ days late on any credit product has risen and is now close to a historical high.

“This suggests that borrowers who are already behind on their payments are increasingly likely to see a further deterioration in their financial situation, suggesting that financial
stress—while not broad-based—is significant for some segments of the population,” it said.

The next Bank of Canada rate decision will take place on September 6, 2023.


Feature image by David Kawai/Bloomberg via Getty Images

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