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Bank of Canada Should Raise Overnight Rate to 1.25 Percent Next Week and 1.75 Percent by January 2019: C.D. Howe Institute Monetary Policy Council

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January 11, 2018 — The C.D. Howe Institute’s Monetary Policy Council (MPC) called for the Bank of Canada to raise its target for the overnight rate, the very short-term interest rate it targets for monetary policy purposes, to 1.25 percent at its next announcement on January 17, 2018. While the Council called for the target to stay at 1.25 at the March announcement, it called for a target of 1.50 percent by July, and 1.75 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. (When the median vote falls in the middle of a 25-basis-point range, the mean “breaks the tie”. On this occasion, the mean tipped the recommendation for January 2019 downward to 1.75 percent.)

Eight of the ten MPC members attending this meeting called for a target of 1.25 percent next week, with two calling for a target of 1.00. By March, two of the eight wanting a hike next week called for a further hike to 1.50. In six months’ time, all members called for a higher target, and in one year’s time, eight of the ten called for a target of 1.75 or 2.00 percent (see table below).

The Council’s tendency to favour increases in the overnight rate over the coming year was primarily a product of the strong Canadian labour market, and a judgement that inflation is likely to come in on target. Members who urged relatively quick adjustment of the overnight rate target to a level consistent with a growing economy and 2-percent inflation argued that strong domestic demand and income growth created both an opportunity and an obligation to bring the current period of extraordinarily low short-term interest rates and resulting speculative excesses to an end. Members who urged a slower pace pointed out that inflation has been slower than expected to rise, and several emphasized that a period of inflation slightly above target would do no harm to the economy or the Bank of Canada’s credibility.

This meeting of the MPC was remarkable for relatively little discussion of risks overseas, reflecting the generally positive global economic environment. Much more salient were risks related to developments south of the border. The possibility that a termination of NAFTA would hurt exports and business investment weighed heavily on the discussion. Some members pointed out that if Canada reacted to US protectionism with its own – raising tariffs, for example – Canadian productive capacity would suffer and inflation would be at least temporarily higher. Others emphasized that US tax reform has further increased the relative attractiveness of investment south of the border. Several underlined that a lower Canada-US exchange rate is part of the adjustment we should expect to these developments – an adjustment that monetary policy should allow to proceed.

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

 
Jan 11            
Mar 2018        
July 2018          
Jan 2019           

Steve Ambler

Université du Québec à Montréal (UQAM)       

1.25

1.25

1.50

2.00

Beata Caranci

TD Bank Group

1.25

1.25

1.50

1.75

Edward A. Carmichael 

Ted Carmichael Global Macro

1.00

1.00

1.25

1.25

Micahel Devereux

University of British Columbia

1.25

1.50

1.75

2.00

Thorsten Koeppl

Queen's University

1.25

1.50

1.75

2.25

Angelo Melino 

University of Toronto

1.00

1.00

1.50

2.00

Doug Porter

BMO Financial Group

1.25

1.25

1.50

1.75

Nicholas Rowe

Carleton University

1.25

1.25

1.50

1.75

Avery Shenfeld

CIBC

1.25

1.25

1.50

1.75

Pierre Siklos

Wilfrid Laurier University

1.25

1.25

1.50

2.00

Median Vote     

1.25

1.25

1.50

1.75

 

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 March 1, 2018 prior to the Bank of Canada’s interest rate announcement on March 7, 2018.

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

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© 2014 C.D. Howe Institute. All Rights Reserved.

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© 2014 C.D. Howe Institute. All Rights Reserved.