Bank of Canada Raises Interest Rate to 5%, Highest in 22 Years

The Bank of Canada (BoC) has raised its key overnight interest rate to a 22-year high of 5 percent, marking an increase of 25 basis points. This decision, announced on Wednesday, follows a previous rate hike in June and aligns with the expectations of analysts and financial markets.

The central bank’s move aims to address concerns that inflation, which it seeks to stabilize at a 2 percent target, might remain high due to persistent consumer spending. Despite the increase, the BoC altered its statement to remove the assertion that rates were insufficiently restrictive, indicating a change in its monetary policy stance.

In its latest announcement, the BoC also revised its economic growth forecast for the current year upward and delayed its inflation target achievement by six months, now aiming for mid-2025. Canadian money markets have reacted by predicting a nearly 40 percent chance of another rate increase in September.

The BoC cited ongoing core inflation, running between 3.5 and 4 percent, and sustained excess demand as key factors necessitating this latest rate hike. Despite nine rate increases amounting to 450 basis points since March of the previous year, the Canadian economy showed resilience with an estimated 0.4 percent growth in May.

Economists are divided on the possibility of further rate hikes, with some expecting the BoC to pause its tightening measures, while others see potential for additional increases.

The central bank now forecasts a 1.5 percent annualized growth in both the second and third quarters of 2023, with an overall real GDP growth projection of 1.8 percent for the year, an increase from the previously forecasted 1.4 percent. The BoC anticipates a rebalancing of supply and demand by early 2024.

Despite a slowdown in headline inflation to 3.4 percent in May, core inflation rates have not decreased as expected. Factors such as robust consumer demand, higher housing costs, and a slower decline in goods prices, excluding food and energy, continue to drive inflation.

The BoC remains committed to bringing inflation back to its 2 percent target by mid-2025, although it acknowledges uncertainties in the timing due to the gradual nature of inflation reduction. The last time the BoC’s overnight target rate reached 5 percent was in March and April of 2001. Prior to the announcement, a majority of economists and money markets had anticipated this quarter percentage point rate hike.

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