“Things Are Not Normal Right Now”: Bank of Canada Hikes by Monster 100 Basis Points, Hits Mortgages. So Might the Fed after US CPI Fiasco

Blame whatever. Just don’t blame money-printing and interest-rate repression.

By Wolf Richter for WOLF STREET.

“To front-load the path to higher interest rates,” the Bank of Canada today jacked up its main rate by a 100 basis points to 2.5%, the fourth rate hike in a row, and the biggest rate hike since 1998, which made the BoC the first of the G-7 central banks to raise by 100 basis points in this cycle.

“An increase of this magnitude at one meeting is very unusual,” said BoC Governor Tiff Macklem in the opening statement. “It reflects very unusual economic circumstances: inflation is nearly 8% – a level not seen in nearly 40 years.”

CPI inflation in May had spiked by 7.7% from a year ago, and the June CPI hasn’t come out yet, but we know from the 9.1% June fiasco in the US, where services inflation is now spiking, that in Canada, June CPI readings are going to be ugly too.

And now there’s talk that the Fed too will raise by 100 basis points at its meeting at the end of July to grapple with this ugly metastasizing inflation in the US by “front-loading” the rate hikes.

Atlanta Fed President Raphael Bostic – who caused a rally in the stock market a while back when he said that a “pause” might “make sense” in September – was asked today if the ugly June CPI print would cause the FOMC to consider a 100 -basis-point hike at the July meeting. And he said, “everything is in play.”

BoC’s inflation expectations are not worth the paper they’re written on.

“Inflation in Canada is higher and more persistent than the Bank expected in its April Monetary Policy Report (MPR), and will likely remain around 8% in the next few months,” the BoC said in the statement.

That “expected” inflation in the April Monetary Policy Report is the light blue line in the chart below. It was only two months before the actual May CPI data was released, and the BoC was totally off. And the prior projections were hilarious, a form of central-bank humor. The exasperated economists at the National Bank of Canada produced the chart:

The Bank of Canada – like the Fed, like the ECB, like all of them – blamed the laundry list of global factors for this raging inflation. But it didn’t even mention the reckless money-printing binge, years of interest rate repression, and government stimulus.

Just don’t blame money-printing and interest-rate repression.

No way, that this reckless money-printing binge, interest-rate repression, and government stimulus might have had anything to do with this raging inflation, no way Jose. But the lockdown in Shanghai and the grain exports from the Ukraine did.

Then, in a bit of veiled navel-gazing, the BoC added that “domestic price pressures from excess demand are becoming more prominent.” Still not admitting anything, but at least looking in the right direction.

“More consumers and businesses are expecting inflation to be higher for longer, raising the risk that elevated inflation becomes entrenched in price- and wage-setting. If that happens, the economic cost of restoring price stability will be higher, ”it said.

Which already occurred months ago. And the cost of restoring price stability will be higher.

Macklem then addressed Canadians directly.

“I want to explain to Canadians why we’ve made this decision,” he said in the opening statement.

Canadians have mortgages that are variable or that are fixed for only a set number of years, such as five years. Those rate hikes are going to be reflected when current mortgages reset, and Canadians are on the hook already, and they’re staring at that monster rate-hike, and the Canadian housing market has already U-turned.

So Macklem tried to explain this rate hike:

First, inflation is too high, and more people are getting more worried that high inflation is here to stay. We cannot let that happen. Restoring price stability — low, stable and predictable inflation — is paramount.

Second, the Canadian economy is overheated. There are shortages of workers and of many goods and services. Demand needs to slow so supply can catch up and price pressures ease.

And third, our goal is to get inflation back to its 2% target with a soft landing for the economy. To accomplish that, we are increasing our policy interest rate quickly to prevent high inflation from becoming entrenched. If it does, it will be more painful for the economy — and for Canadians — to get inflation back down.

Things are not normal right now. After 30 years of low, stable inflation, many Canadians are experiencing the pain of high inflation — and the uncertainty that comes with it — for the first time.

When inflation is this high, it erodes the purchasing power of every Canadian.

The soft landing

Getting inflation back to 3% by the end of 2023 and back to 2% by the end of 2024, that’s “the soft landing we are projecting,” he said.

“Interest rate increases can cool demand and inflation without choking off growth or causing a surge in unemployment. Some sectors will be more affected by interest rate increases than others, but the very tight labor market means there is room to reduce the number of job vacancies without having a big impact on overall employment, ”he said.

“But the path to this soft landing has narrowed because elevated inflation is proving more persistent. And this requires stronger action now so consumers and businesses can be confident that inflation will return to its 2% target, ”he said.

Quantitative tightening purrs along on autopilot.

QT was kicked off in April and will continue on autopilot. Maturing Government of Canada bonds will roll off the balance sheet without replacement. Its holdings of GoC bonds have already declined by over 8%. Repos and Canada Treasury Bills have been reduced to essentially zero. And its overall holdings have declined by 21% since the peak in March 2021:

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