To hike or not: It's a toss up ahead of Bank of Canada rate decision

Odds are split on whether or not the Bank of Canada will hike rates for the first time since 2018 on Wednesday, with Omicron's wrath seen potentially delaying the start of an aggressive tightening campaign geared at taming red-hot inflation.

Canada's central bank will make its first major policy decision of 2022 at a time when consumer prices are rising at their fastest clip in 30 years and a harsh Omicron-fueled wave of coronavirus infections is just beginning to ebb.
 

Money markets see a roughly 65% chance the Bank will boost the overnight rate to 0.5% from the current record low 0.25%.

Analysts surveyed by Reuters are less certain, with 77% seeing the central bank holding until at least March.

"It's a toss up really," said Stephen Brown, senior Canada economist at Capital Economics. "I mean, (the BoC) was clear it was getting more concerned about inflation. But in terms of the type of hints that a central bank might normally send when it's about to hike, we haven't quite had them." Regardless of when the first increase comes, it is nearly certain to be the first of many this year. Brown sees four hikes in 2022, up to 1.25%. Money markets, meanwhile, are pricing in six to 1.75% to quell spiraling price gains on everything from housing to new appliances.

Canada's inflation rate hit 4.8% in December, the highest since September 1991 and the ninth month in a row above the Bank of Canada's 1-3% control range. Inflation has not been this high for this long since the central bank set its 2% target in 1991.

The BoC renewed that target in December. Two days later, Governor Tiff Macklem said the slack in Canada's economy was "substantially diminished" and the Bank was "not comfortable" with the current path of inflation.

That was a clear signal a tightening was imminent, said Derek Holt, head of capital markets economics at Scotiabank, further bolstered by new survey data showing inflation expectations continue to mount for consumers and businesses.

"At this point in the cycle, the risks to choosing the wrong fork in the road are exceptionally high," said Holt, who expects multiple hikes this year to get the benchmark to 2%.

"Tighten too much and the curve inverts and the economy tanks. Don't tighten enough and the economy eventually tanks on rising imbalances anyway given the dangerous combination of runaway inflation and house prices," he said.
 

But the potential wrinkle is the Omicron variant. Canada has seen a huge surge in daily cases, outstripping testing capacity and forcing provinces to reimpose restrictions, which is set to weigh on January job data.

Still, for some Bank watchers the risk is overblown.

"Omicron is the obvious get out of jail free card for monetary policymakers," said Simon Harvey, head of FX analysis for Monex Europe and Monex Canada.

"Near-term growth risks don't offset the need to combat rising inflationary pressures, especially if they're accompanied with downside risks to potential growth." The U.S. Federal Reserve also meets on Wednesday and investors expect it to signal a first rate hike in March.