The Bank of Canada Preview: The rate hike is a sure shot!

• The Bank of Canada is widely expected to raise the overnight rate to 1.50% in July meeting.
• Lifting the overnight rate to 1.50% confirms the Bank of Canada is in a monetary tightening cycle, gradually lifting rates as the economy booms.
• The good news including the Bank of Canada rate hike is already priced in CAD and the USD/CAD is therefore seen as buying opportunities ahead of 1.3000.

The Bank of Canada is widely expected to hike the overnight rate by 25 basis points to 1.50% while meeting on Wednesday, July 11.

The economic development justifies the rate hike from the Bank of Canada as the inflation rate of 2.2% y/y and core inflation excluding energy prices rising 1.6% y/y in May. The headline consumer price index (CPI) jumped over the 2% inflation target in February this year and stayed above that level since then, although the core inflation excluding energy prices decelerated from 2.0% y/y in February this year to 1.6% y/y in May. 

The labor market in Canada has also been improving massively over the past 12 months with the number of new jobs added n Canada reaching 219.4K and the unemployment rate dropping to 5.8%, the lowest since the 1970s.

With participation rate rising in June, the unemployment rate rose unexpectedly to 6.0%, but from the monetary policy view, the labor market is tight enough to justify the rate hike with wages rising. Canadian wages increased 3.6% over the year in June 2018, recording the largest increase since October 2012. 

Wage growth is an important metric for the Bank of Canada as it indicates future inflation pressure and for the last six month wages in Canada have been rising more than 3% y/y.  

With hiking rates, the Bank of Canada is expected to reiterate its monetary policy stance that any future moves are data dependent and rates will go higher only gradually.  

Poloz also said the Bank of Canada is also worried about the impact of US imposed tariffs on Canada’s economy and continuously rising housing market. 

The Bank of Canada Governor Stephen Poloz already indicated that GDP and inflation projections will be stable reflecting only the trade tariffs announced, not threatened.

 “As we approach our next interest rate decision, we are working to incorporate in our projections the effects of the recently announced US steel and aluminum tariffs, along with retaliatory measures, both in Canada and globally. We are also analyzing individual-level data to understand how the new lending guidelines in Canada are affecting the housing market and mortgage renewals,” Bank of Canada Governor Poloz said on June 27.

In term of the foreign exchange market reaction, the good news including the Bank of Canada rate hike is already priced in the Canadian Dollar and the USD/CAD is therefore seen as buying opportunities ahead of 1.3000.