Bank of Canada kept its benchmark rate unchanged on Wednesday. This was a sign of caution as the policymakers weighed rising inflationary pressures due to energy against weakened economic growth.
The policy rate was kept unchanged by officials led by Tiff Macklem, to align with the expectations of market participants and economic forecasts.
This decision is made amid increased uncertainty related to the Middle East Conflict and its possible impact on global markets for energy.
The central bank stated in its statement that they could not accurately predict either the length or the scale of the conflict with Iran, and described the outlook for the economy as being “highly unreliable.”
The central bank examines inflationary pressures in the near term
Bank of Canada stated that it will “look past” immediate inflationary impacts of rising energy prices while remaining vigilant regarding longer-term risk.
Macklem, in prepared remarks, said that the risk of higher energy prices spreading quickly to other goods and service prices appears contained.
Bank of Canada noted that while inflation is close to the 2% goal, there are still excesses in supply. This may limit price increases.
Macklem stated that the governing council would look past war-related inflation’s immediate effects, but we wouldn’t allow their impact to spread and persist if prices of energy remain high.
Similarly, the policymakers have removed the language in previous guidelines that suggested the policy rate was “appropriate.” Instead they state “we are ready to react as necessary.”
Economic weakness intensifies growth concerns
Bank of Canada is monitoring inflation risk, but it has expressed greater concerns about economic growth.
The officials said that it was “too soon to estimate the impact of conflict in the Middle East” on the growth, but they added that the “risks for growth appear to be tilted towards the downside.”
Recent data on the economy suggests a softening of conditions.
Canada’s unemployment rate increased to 6.7% in February. This is the highest monthly drop in the last four years.
In the fourth quarter, there was also a contraction of 0.6%.
Governor Macklem recognized the hard trade-offs that policymakers face.
He said that “economic weakness coupled with increasing inflation presents a challenge for central banks”.
Raising interest rates in order to reduce inflation may further weaken our economy. “Lowering interest rates in order to boost growth could push inflation above the target.”
Other headwinds are a slowing of population growth, sluggish business investment and the ongoing tensions in trade with the United States.
Canadian economy faces mixed effects of oil shock
Central bank officials highlighted that rising oil prices have complex impacts on Canada, an economy which exports energy and is also a market driven by consumption.
Oil prices rising can increase government revenue and corporate profits in regions that produce energy.
They also increase the price of gasoline, which reduces household spending.
Macklem stated that while an increase in the price of oil would boost incomes from energy exports, higher fuel prices “would squeeze consumers and leave them with less money for other expenditures.”
The policymakers warned of the possibility that disruptions to commodity supply, such as fertilizer, could increase inflationary pressures.
The central bank is expected to hold off on any decision until it determines the extent of energy-driven inflation and its impact on economic growth.
As new information becomes available, this post Bank of Canada Holds Rates at 2.25% as Global Risks Cloud Outlook may change.
