Why the Bank of Canada did not raise interest rates today? A question hotly debated.
To summarize the current narrative, investors believe global Central Banks are behind the curve fighting inflation. Meaning, the time to fight inflation is now not later in March. The inflation hawks were disappointed today, as market probability suggested a 70% chance of a rate. No dice.
On the flip side, investors can shelve USDCAD interest rate differentials until March, when rates lift off from zero. For sure, as long as oil’s rally continues, the currency pair should remain range bound in the short term.
Clearly, the Federal Reserve and Bank of Canada are on the same page. They’re not in a hurry to raise interest rates. I see a coordinated policy towards the transition from loose to tight monetary policy. So far, markets have responded positively, but tomorrow we get the Fed’s decision and press conference. Powell will have to defend continued asset purchases under QE, there is a chance he could say something he shouldn’t.
What worries me is a policy error by the Fed. I distinctly remember Powell’s statement late 2018, “we’re a long way from neutral.” And the following stock price collapse into year end. Policy error is a real risk to be aware of and monitor closely.
The chart below illustrates the size of BofC asset purchases under QE. Indeed, the BoC purchased about $320 billion worth of government bonds during the pandemic. Now the challenge becomes bleeding these assets off the balance sheet. A tall task to say the least.
Conclusion
In the final analysis, Central Bank policy is coordinated at the moment. More importantly, the Fed needs to end Quantitative Easing, which is widely expected to happen by March. Assuming no surprises, interest rates will start to rise in March, on pace for 4 hikes this year. Expect a 1% to 1.25% bank rate by the end of 2022, both here is Canada and the US.
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Definition of a fear trade –>
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