Mark Carney saw a bogeyman on Tuesday morning. He was spooked into removing his conditional commitment to hold interest rates, which would otherwise have expired at the end of June. By signalling that it might raise interest rates ahead of schedule, the central bank drove the Canadian dollar from 98 US cents on Monday to 100 US cents on Tuesday.
Higher interest rates are supposedly needed to control inflation. But there is little evidence of that threat. This morning, Statistics Canada reported that the national inflation rate fell from 1.6% to 1.4% in March. The core rate, closely watched by the central bank, dropped from 2.1% to 1.7%.
The Olympics had boosted February’s inflation figures. With that event over, both measures have predictably dipped back below the 2% target.
Obviously, the Bank of Canada will raise interest rates at some point. However, it is unclear why it opened the door to raising rates in June instead of July.
This unnecessary rush had the negative effect of driving up Canada’s already overvalued currency. The latest OECD figures on purchasing power parity suggest that a Canadian dollar should be worth only 86 American cents. Having it 14 cents above fair value imposes a huge cost on Canada’s beleaguered export industries.
Importantly, the Bank of Canada has not actually committed to raise interest rates in June (it just removed the commitment to not raise them). Based on today’s cool inflation numbers, it could partially redeem itself by holding interest rates steady in June. Doing so could help temper the lofty loonie.
In recent years, the typical pattern has been relatively high inflation in western Canada’s robust resource economy and lower inflation elsewhere. In March, prices actually declined in the westernmost provinces and increased most on the east coast.
As a result, provincial inflation rates now look like a staircase, rising from west to east. The inflation rate is only 0.5% in BC, 1% in Alberta and Saskatchewan, around 1.5% in central Canada, and about 3% in the Atlantic provinces.
- Inflation Collapse Confounds Monetary Hawks (May 17th, 2013)
- Polozogistics: Nine Thoughts About the Choice of the New Bank of Canada Governor (May 3rd, 2013)
- Margaret Thatcher’s Economic Legacy (April 16th, 2013)
- Mark Carney’s tenure and the state of monetary policy (November 27th, 2012)
- Prices Decline Yet Again (August 17th, 2012)