C.D. Howe Institute Monetary Policy Council Says Bank of Canada Should Hold Overnight Rate at 0.50 Percent for Next Six Months, Hike to 0.75 Percent by September 2017

September 1, 2016 — The C.D. Howe Institute’s Monetary Policy Council (MPC) today called for the Bank of Canada to keep its target for the overnight rate, the very short-term interest rate it targets for monetary policy purposes, at 0.50 percent at its next announcement on September 7, 2016.  Looking ahead, the Council said the Bank should hold the target at 0.50 percent over the next six months, but called for an increase to 0.75 percent in a year’s time.

The MPC provides an independent assessment of the monetary stance consistent with the Bank of Canada’s 2 percent inflation target. William Robson, the Institute’s President and CEO, chairs the Council.

Council members make recommendations for the Bank of Canada’s upcoming interest-rate announcement, the subsequent announcement, and the announcements six months and one year ahead. The Council’s formal recommendation for each announcement is the median vote of the members attending the meeting.

On this occasion, the calls for the Bank to hold the target at 0.50 percent on September 7 and at the subsequent announcement on October 19 were unanimous. By the time of the March 2017 announcement, all but one Council member preferred 0.50, with the remaining member calling for 0.75 percent. By September 2017, three members still preferred 0.50 percent, four called for 0.75 percent, and one called for 1.00 percent (see table below).

MPC members judged the global outlook somewhat more positively than they had before the Bank of Canada’s last interest rate announcement in mid-July, noting particularly that the Brexit vote had so far proved less damaging than many feared. The US economy was the focus of considerable discussion, with members noting the divergence between strong labour-market indicators and weaker profitability and investment indicators, with the latter being a particular concern for Canadian exports.

Turning to developments in Canada, MPC members noted a similar divergence, with many indicators of household demand, including credit growth, looking robust, but business investment and foreign trade subtracting from spending and output. Several members expressed concerns that the Canadian dollar was not low enough, or might not be low enough for long enough, against the US dollar to materially improve Canadian exports, especially when anemic business investment is limiting additions to capacity to serve both foreign and domestic markets.

Although no MPC member called for a cut in the overnight rate, many signaled that they were leaning in that direction. Some who were concerned about the level of the exchange rate indicated that the prospect that the Fed will raise its policy rate before the end of the year, which could send the Canadian dollar lower, left them comfortable with an unchanged overnight rate. Others stressed the persistence of a disinflationary output gap in Canada and the Bank of Canada’s repeated postponement of the date at which it expected the gap to close, stating that further signs of inflation staying below target could tip them toward a cut.

On balance, the group felt that trends in inflation, and the stability of inflation expectations at 2 percent, warranted no cut in the overnight rate in the near term, and the majority expected that, over time, the Bank of Canada should move the rate to a level more consistent with steady growth at 2 percent inflation.

Votes of MPC members and the Council median for each announcement, percent.

The views and opinions expressed by the participants are their own and do not necessarily reflect the views of the organizations with which they are affiliated, or those of the C.D. Howe Institute.

The MPC’s next vote will take place on October 13, 2016 prior to the Bank of Canada’s interest rate announcement on October 19, 2016.

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Contact: Kristine Gray — phone: 416-865-1904; e-mail: kgray@cdhowe.org.