Canada's hot economy necessitates pumping the brakes. According to RBC Economics' recent study on inflation, that was the takeaway. Inflation is so high that the world's central banks have no choice but to raise interest rates aggressively. The new strategy is to bring inflation (and the economy) down quickly by returning interest rates to more normal levels. Summer is expected to be the first sign of the slowdown, which will begin long before inflation has stabilized. Although the Canadian economy appears strong, a decline in demand is expected soon.
Artificially low-interest rates have propelled the Canadian economy into overdrive. RBC expects Canada's GDP will rise at a rate of 0.3 percent in April, which is higher than the initial 0.2 percent estimate from Statistics Canada. This year's increase in Alberta's oil production has resulted in an economic boon for the region (and budgets). With data going back to the 1970s, unemployment is at the lowest level ever recorded. All of these macroeconomic indicators are life-or-death for Canada. Even though it doesn't feel like it, the economy is in fact flourishing While the present economic background appears to be extremely robust, rising interest rates are increasing the cost of debt servicing for Canadians. According to Nathan Janzen, associate chief economist at RBC, "this increase will eventually cause erosion of demand." Let's go back to the "artificially low rates" part. The recovery of the economy was aided by the utilization of massive sums of inexpensive capital. Canada, for example, recovered considerably more quickly than projected after the financial crisis. However, even after a full recovery, it didn't slow down. In fact, low-interest rates are still providing demand stimulus.
Low-interest rates raise a difficult question: What do they really represent? Many people think in terms of absolute numbers or comparisons to last year's results. Some say it's low by historical standards (it is very low compared this way). According to some, it's high because it's above the levels that were witnessed a few years ago. For the most part, analysts focus on the current interest rate with respect to the long-term interest rate target range. When the current interest rate is lower than the final interest rate, we say that we have a low-interest rate. It is predicted that the terminal rate is between 2 and 3 percent, where monetary policy is no longer stimulating. Inflation rises more quickly when the overnight rate is lower than the terminal rate. Helping demand and inflation, Canada's overnight interest rate currently stands at 1.5 percent. It's still true. As a result, inflation is on the rise, is it ever on the rise. For the first time since 1983, the Consumer Price Index (CPI) grew at a 7.7% annual rate in May.
Historically, the general consensus was that we would never again see interest rates this high under the leadership of modern, technologically advanced central banks. Higher-than-expected inflation now threatens to stifle growth. We'd utilize artificially low-interest rates all the time if there were no consequences. The problem is, that's not the case at all. When demand exceeds supply, inflation occurs, resulting in higher but unproductive prices. Households often cut back on discretionary expenditure in order to pay for the additional costs. A family's ability to afford groceries may be improved if they eat out less. The restaurant will have to reduce expenses as a result of the income reduction. In order for the economy to slow down, it has to start with one person. Because of this, Janzen believes that Canada's central bank will have to raise interest rates even more aggressively in the near future since the CPI rose to 7.7 percent in May. In the same way, boosting interest rates can be used to reduce demand and thereby reduce inflation. As a result, interest payments consume more of a borrower's discretionary income. There are of course a lot fewer debtors than currency holders.
The path of least resistance is to raise the interest rate. As a result, Janzen expects the Fed to use higher interest rates to curb inflation. Bank of Canada (BoC) and US Federal Reserve (Fed) interest rate hikes are expected to pick up pace, according to RBC's projection. According to these forecasts, the Bank of Canada will raise interest rates by 0.75 percentage points in July. This summer's demise will be brought on by inflation or increased interest rates. An inflationary recession is less likely if the economy slows as a result of increasing interest rates. That's a win in a sense.
