One of Canada’s “Big Six” banks sees the country’s central bank playing catch up to keep pace with the US. National Bank of Canada (NBF) warned their financial market customers the “free-money party” is over. The Bank of Canada (BoC) used quantitative ease (QE), driving home sales and prices higher in 2020-2021. NBF sees the BoC using quantitative tightening (QT) to fix the issue, the exact opposite program.
National Bank Disagrees With The BoC Decision, But Not Unexpected
NBC disagreed with the central bank’s decision to maintain the overnight rate. They, amongst other banks, have said Canada has been ready for higher rates for a year. “We disagreed with the BoC’s policy decision on Wednesday, seeing sufficient cause to kick start a tightening cycle now,” wrote Warren Lovely, the bank’s chief rates strategist.
The decision to hike rates was assumed to be in January or March, and now we know it isn’t January. A hike in Q1 is needed to distribute the hikes evenly, to allow the market to adjust sufficiently. Leaving the decision too late can lead to a disruption in the economy, which the BoC is unlikely to do. “To us, the Bank simply delayed the inevitable, an overtly hawkish statement/presser seemingly consistent with a series of rate hikes starting in early March,” he added.
Despite the later-than-ideal start, five hikes are still expected this year. They see the BoC’s overnight rate reaching 1.50%, 5x higher than the current level at the end of the year. In early 2023 they see the overnight rate hitting 1.75%, whereas the central bank sees the neutral rate.
Canada’s Lower Neutral Policy Rate Means Slower Growth and An Inability To Keep Up With The US
The “neutral policy rate” is the rate that facilitates the ideal amount of inflation. It allows credit to be created at a stable rate but is still low enough to enable relatively easy lending. The point is not stimulative, but at the same time doesn’t restrict or tighten lending. It’s unlikely to see the overnight rate run above this level, except in an inflation emergency.
In December, the BoC lowered their forecast to just 1.75% for the neutral policy rate. It’s problematic for many reasons, including being lower than the inflation target. This effectively means Canada needs negative real interest rates to operate normally. There’s no way to read that as a good thing.
The BoC warned of a bigger issue when explaining the lower forecast. “Neutral interest rates are likely to be lower than in the past, which means that central banks will have less room to lower their policy interest rates in the face of large adverse shocks to the economy,” said the BoC and Government of Canada.
NBC notes the unusual circumstance of Canada and the US announcing policy on the same day. According to the bank, the last time this occurred was in 2019 — a pre-pandemic issue. If Canada tries to keep up with the US, they’ll be in a difficult situation, though. “A lower neutral policy rate north of the border is a function of Canada’s greater interest sensitivity,” he said.
“Canada’s lower terminal rate also captures a relatively lower potential GDP growth pace, which has been exacerbated by consistently disappointing non-residential business investment. Perhaps most significantly, imported tightening from the Fed leans against the BoC moving above 2%.”
Canada might want to hold pace with the US Federal Reserve to help manage exchange issues. Since the US neutral rate is much higher, they’re likely to encounter a big hurdle.
National Bank Sees Quantitative Tightening As Early As June
One of the biggest boosts for Canadian home prices has been quantitative ease (QE). The program involves the BoC buying government bonds competitively. This helps to drive down borrowing costs across the market, increasing credit growth. This has the intended consequence of raising housing demand and home price growth. The scale of Canada’s QE program was even larger than the US, adjusting for the size of the economy. Now to fix the excess liquidity issue, NBF sees the BoC running the opposite program — quantitative tightening (QT).
QE at a high level is about increasing credit liquidity, while QT is about reducing liquidity. This is a controlled reduction in the demand for goods by lowering the availability of cheap credit. Experts see the US Federal Reserve as likely to use it in the not-so-distant future. NBC sees Canada using QT to tame the overly liquid credit markets.
“Our forecast likewise incorporates monetary braking in the form of QT, which has never been done in this country and where an official playbook has yet to be written (or at least communicated),” says the bank.
Excessively easy policy was an easy way to bolster Canada’s economic performance, but it comes at a cost. The country now has less room to respond to the next crisis, and needs to absorb the excess liquidity. Doing so will strengthen the economy over the long-run, but will create an adjustment period.
Canadian real estate is the second biggest Ponzi in the world. Soon we will see the actual faces of all the AAA ratings. I prefer renting for life than joining the Ponzi scheme. It just turns free individuals as slaves.
FYI, new listings are increasing very rapidly.
I’d rather mortgage but most people that mortgage homes aren’t bright with their money. I estimate calculated that in 2022 3% of income earners here will make over $200k a year. Imagine a person getting a $200k+ career, he or she will buy a big home to match the big salary. Big salaries are usually in the big city so they buy a $2 million home somewhere in the burbs because big homes in the center are too ridiculous for even high earners. $2 million / $200k = 10 years but that doesn’t take into account the other expenses a high salary person incurs so it would take 20 years. Then again they might get a higher paying job or raise so somewhere in between 10-20 years to pay off a an overpriced home in the burbs. But like a said most are bad with money management so they’d go for the $5 million McMansion closer to the city and that’ll be 30 years of slavery. Average earner here will take them 20-30 years to pay off an average home price.
I am cynical but i think Mr Macklem is not trying his best for Canadians long term. It would go against his personal objectives (and his friends).
Hiking rates to kill speculation and save the economy would be a long term objective and we would have to go through a crisis before then.
Like his predecessors, he is just trying to gain time. He wants to retire from his current position and find a nice spot in the private sector where he will be able to sell his connections.
He will slow the interest rate hikes as much as he can.
I watched him being interviewed on Wednesday. Obviously he was not at ease and he was waiting for this event to end.
I thought that the Bank of Canada mandate was to ensure a stable monetary supply by taming inflation and not refusing to cool a hot inflationary market to enrich the rent-seeking class.
Remember when Adam Vaughan was on TV and admitted that Canadian real estate is not for Canadians to buy and live in?
The elites in Toronto want the Bubble (TM) to continue, to enrich their Boomer counterparts.
I suppose that’s why liberals notoriously now avoid directly answering any questions. It’s far easier to claim negligence than to be openly against your own citizens.