The Bank of Canada to increased its key rate by half a percentage point this week, taking it from 0.5% to 1%. This was the first increase of such magnitude in more than 20 years and Canadians will have to get used to it, say some specialists.
The economy can handle higher interest rates and it needs themnoted Bank of Canada Governor Tiff Macklem.
The country’s top monetary policy official is concerned regarding the widespread price pressures in Canada”, fueled among other things by the war in Ukraine. And for good reason: the purchasing power of Canadians is being hit hard. The annual rate of inflation was 5.7% in February. The price of the grocery basket alone increased by 7.4%. The price of gasoline has jumped 48% in one year.
Housing at higher cost
It is in this context that the increase in the key rate and those to come must be understood, since the Bank’s objective is to maintain inflation at 2%. By raising its policy rate, it sends a signal to financial institutions to raise their interest rates, which discourages borrowing and spending.
Assume a $500,000 25-year fixed rate mortgage, an increase of 50 basis points implies a monthly increase in the mortgage payment of $125», illustrates the professor of economics at the University of Ottawa Serge Coulombe, guest on the program Facts first.That’s for the 50 basis point hike. But we should expect the rise over the course of the year to be at least 2 percentage points, implying a rise in mortgage payments of $500.»
It is a major drain on the budget of households who have borrowed to buy a house recently, often at very high prices.“, he adds, noting that the majority of mortgages taken out by first-time buyers are at least $500,000, the average price of a house in Canada being clearly superior.
For the economist, this example illustrates the difficulty of countering inflationary pressures. It’s hard to fight inflation and be popular because it means tightening credit conditions for households and businesses. That’s why we don’t entrust this task to politicians who must be re-elected ».
Paying more and more for food
And these inflationary pressures are not regarding to fade. Sylvain Charlebois, professor of food distribution and policy at Dalhousie University, expects food affordability to become a major issue over the next year.
The expert points out that historically, the Canadian food inflation rate, estimated at 7.4% in February, always ends up catching up with that of its American neighbour, currently at 8.8%. Things are getting tougher and tougher […] the food inflation rate is expected to even exceed 9% in the coming months. It will be difficult for households that do not necessarily have the means to absorb this kind of increase.»
The war between Russia and Ukraine, two of the world’s largest grain exporters, is proving particularly disruptive to commodity prices.
Professor Charlebois gives the example of Germany, very dependent on Ukrainian food products, where food retailers have warned that they will increase their prices by 20 to 50% by the end of the summer.
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He is also worried regarding the impact of a decision taken this week in Washington aimed at lowering the price of gasoline. President Biden announced the easing of restrictions on the sale of a fuel incorporating 15% ethanol, E15.
We will still sacrifice a lot more corn from the agri-food sector to the energy sector, which will reduce the quantity of grain on the markets.“, he observes. Food prices are likely to rise even more in the coming months.»
Rising costs are hurting manufacturers
Households are not the only ones affected by inflation.
The President and CEO of Manufacturers and Exporters of Quebec (MEQ), Véronique Proulx, recalls that companies in the province have been facing difficulty in accessing raw materials for two years due to a series of disruptions.
The strike at the port of Montreal, the rail blockades, the factories which have closed in connection with the pandemic, the liner caught in the Suez Canal […] all these events have added up to put a lot of pressure on our manufacturers ».
Véronique Proulx cites the increase in the cost of transporting raw materials as one of the main consequences of these disruptions.
For two years, there has been an increase in the price of containers, transport by boat, gasoline as well – we know that we do a lot of transport by truck to the United States – there is incredible pressure on the model of our manufacturers linked to this increase in costs.In this context, wouldn’t some companies benefit from repatriating part of their production?
It’s not that simple, according to the CEO of MEQ.
Some companies consider bringing production from China to Quebec or Canada given the transportation costs and all the difficulties they have had in recent years. But at the same time, the biggest challenge to all of this is the labor shortage. We are already having trouble producing what we need to produce because we don’t have the workers we need. If in addition we think of bringing more production here, how are we going to do » ?
Cool the economy?
While he believes that some relocation of production to the country is plausible in the long term due to the supply problems encountered by manufacturers, Serge Coulombe believes that controlling inflation remains the pressing issue short term, because price increases translate into lower living standards for people».
Canadian wages are increasing less rapidly than inflation, a trend also observed in the United States. However, the pressure to raise wages might itself add grist to the mill for inflation by increasing business costs“. A cost increase that companies might pass on to consumers by increasing their prices.
What is needed in the short term to calm things down is to cool the economy, explains Serge Coulombe. It’s not easy politically because it’s not popular, but it has to be done because we risk finding ourselves in a situation like in the 1980s when we had to wage a war once morest inflation and where did we get mortgage interest rates of around 15% annually.»
In this context, Serge Coulombe considers certain budgetary measures recently announced by Quebec and Ottawa to be counterproductive, whether it be the sending of a check 500 $ to all Quebec adults making less than $100,000 per year or the creation of a tax-free savings account to help Canadians buy their first home.
In the case of the $500, we give money to people, so we come to increase demand once more. In the case of assistance for first-time buyers in Canada, if it proves effective, people will have more money to buy their homes and that will increase the price of homes.»
These are political measures“, he drops. You don’t fight inflation by giving money to the world.»