Benjamin Tal, the Deputy Chief Economist of CIBC, recently shared his insights on the monetary policy direction of the Bank of Canada. He indicated that the rate hike period by the Bank might be coming to an end soon. The central question now is when the Bank will start slashing rates. Tal’s projection is that a cut in the overnight benchmark rate might not occur until next summer which matches previous forecasts by BMO.

Though financial experts anticipated rate reductions in Canada and the U.S. beginning early this year, the Bank of Canada hasn’t made such a move. After maintaining stable rates from January to April, the Bank increased them in June and July. There’s speculation about another potential hike in the forthcoming meeting next week. In a candid statement at the 2023 National Mortgage Conference in Toronto, Tal remarked, “If the Bank of Canada doesn’t cut interest rates, it’s not going to be pretty, to put it mildly.”

Projecting a 2% Rate Drop

Elaborating on the future of the overnight target rate, which stands at 5.00% currently, Tal anticipates it to recalibrate to approximately 3%. He provided an optimistic overview of Canada’s economy and its trajectory. Commenting on the 0.25% benchmark rate during the pandemic, he described it as a “mispricing of the value of loans” and asserted that a 3% overnight rate aligns more with historical standards.

However, he reassured mortgage brokers, stating they can still secure substantial business even when rates are elevated. The sustained demand and the existing shortage in housing inventory ensures that Canadians’ enthusiasm for real estate remains undiminished, irrespective of escalating interest rates. Illustrating the current market sentiment, Tal expressed, “This market is eager. This market is waiting for certainty.”

He also discussed the Bank of Canada’s inflation-fighting approach. According to Tal, if the Bank was AI-operated, it would have ceased rate hikes around the 4.5% threshold. But the Bank, driven by human decision-makers, tends to prioritize risking a recession over letting inflation surpass 2%. This is because the bank has more tools to fight recession than it does to fight inflation. This stance appears to be leading the Bank to adopt a more stringent position on inflation than necessary. Tal pointed out the retrospective nature of inflation, noting its utility in explaining past economic conditions rather than forecasting.

Bank of Canada’s Announcement Next Week

Highlighting the Bank’s ambiguity in its stance on inflation, Tal inferred that even if Governor Tiff Macklem were questioned about a possible rate hike next week on Oct. 25, he might be indecisive. “They don’t know,” asserted Tal. “They are still trying to figure it out.”

Tal also emphasized the vanished financial cushions that once shielded consumers from abrupt rate hikes. The savings accrued during the pandemic’s peak have dwindled, pushing consumers to rely more on credit cards and loans. The rate reductions don’t automatically translate to lower prices. While addressing the soaring prices, particularly of food, Tal noted, “The price of food is in the sky. The Bank of Canada doesn’t care—not because they are bad guys, but because they don’t care about the level of prices…inflation is the rate of change, it’s not the level.” This renders consumers vulnerable to interest rate shocks.

Tal highlighted the impact of the Bank’s policies on mortgage interest, mentioning its contribution to the rising consumer price index. Despite the 30% surge in mortgage interest payments year-over-year due to rate hikes, he contended that these aren’t fueling inflation but are “disinflationary,” adversely affecting the consumer.

Furthermore, if mortgage interest payments are excluded from the consumer price index calculations, the inflation rate would match the Bank of Canada’s 2% annual inflation target.

To sum it up, despite the uncertainties and challenges, Tal remains optimistic. Whether there’s one more rate hike in store or not, he firmly believes the peak of the current rate-hike cycle is imminent. He concluded, “We are very, very close to the end of monetary tightening.”