Tensions at the top of the Bank of Canada over inflation outlook

The Board of Directors of the Bank of Canada (BoC) exhibited disagreement regarding inflation forecasts prior to their decision on September 4 to cut interest rates for the third consecutive time. The minutes published on Wednesday reveal that opinions within the committee regarding future inflation varied significantly. The BoC announced on September 4 that it is weighing the effects of two opposing forces on inflation: persistently high costs for housing and services on one hand and a weakening economy and rising unemployment on the other. While some members believed the risks were balanced, a different faction of the committee expressed concern about potential downside risks to inflation, especially if the economy and labor market continue to weaken. The bank began lowering interest rates in June after consumer prices consistently fell. Since then, rates have been reduced three times by a total of 75 basis points to 4.25%. Data released on Tuesday showed that the annual inflation rate fell to the central bank’s target of 2% in August - the lowest level since February 2021. This fueled hopes for a significant rate cut at the next BoC meeting on October 23. Currently, money markets predict a nearly 46% probability of a 50 basis point cut. The committee members advised that it might be appropriate to lower the key interest rate more quickly if the economy and labor market do not recover as expected despite favorable financing conditions. With inflation approaching the target, the bank must be prepared to counteract downside risks that could arise from weakness in economic activities. Economic growth stagnated in June and is expected to remain at this level in July. Economists now anticipate that annualized GDP growth in the third quarter will likely reach half of the BoC's forecasted 2.8%. The economic problems were further exacerbated by an increase in the unemployment rate to 6.6% in August, up from 5.0% in January 2023. The board noted that per capita consumption could take longer to recover and might deteriorate further if businesses delay hiring due to weak demand. This could drive inflation down more than expected.