Bank Governor David Dodge gave a speech today, and repeated the warnings of higher interest rates ahead:
[S]ince April, we have seen two things: an increased risk of future inflation and a rise in the Canadian dollar that appears to have been stronger than historical experience would have suggested. At our last fixed announcement date, we said "that some increase in the target for the overnight rate may be required in the near term to bring inflation back to the target."
The Globe and Mail's report adds that the recent jump in the exchange rate complicates things a bit:
While Mr. Dodge repeated that statement again this morning, in comments to reporters he clouded the case for more rate hikes somewhat, by saying that, when it comes to inflation, the rising Canadian dollar was a force that was “competing” against growth.
Mr. Dodge said the recent surge in the Canadian dollar could not be easily explained, but at the same time warned not to get too exercised about short-term movements in the currency.
Currency markets and bond markets around the world, not just in Canada, “have been very volatile” in the last two months, Mr. Dodge noted in response to questions from the St. John's audience.
“One needs to be very careful not to interpret necessarily these day-to-day and week-to-week movements as a long term trend,” he said, and instead “keep an eye on ... all the elements that are going on out there.”
Just the sort of thing a central banker should say: things happen, so not point in committing yourself too strongly to a scenario that may not be borne out by events. But to go from that to this:
Taken together, Mr. Dodge's comments suggested he is slightly less keen on tightening monetary conditions than last month, said economist Sébastien Lavoie at Laurentian Bank Securities.
“The main culprit of today's less hawkish tone is obviously the Canadian dollar,” Mr. Lavoie writes in a commentary. He predicted that the Bank of Canada would continue to keep rates on hold in July, despite the markets believing otherwise.
is pushing it.
Now, I'm the first to say that Sébastien is a very smart guy (I mean that literally; I directed his MA thesis), but I think he's wrong here. The Bank has spent the past 15 years building up its reputation as a central bank that is focused exclusively on inflation. Since higher exchange rates should, eventually, pass through to lower consumer prices, then a rising exchange rate does mean that the Bank can live with interest rates that are lower than they would otherwise have been. But since the pass-through is one of those processes with long and variable lags, there's no way that the recent run-up in the CAD will move inflation back to the Bank's comfort zone anytime soon. So there's no way a 4% jump in the exchange rate will force a change of plan between now and the next interest rate decision.
Okay, *almost* no way. If the tremors in the US bond market turn into Something Horrible, then yes, the Bank may decide not to rattle markets any further. But if that happens, whatever the Bank decides to do or not do will be the least of our concerns.
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