Bank of Canada raises key interest rate to 2.50 per cent; prime rate follows
01:41 PM EDT Oct 19
OTTAWA (CP) - The Bank of Canada raised its key policy interest rate by a quarter of a percentage point to 2.50 per cent Tuesday as it tries to encourage growth while controlling inflation.
The move - the bank's second rate hike in as many months - was widely expected by financial markets and means some consumer borrowing costs are on the rise as well. Major commercial banks boosted the prime rate they charged their top customers to 4.25 per cent from four per cent, effective Wednesday.
Floating mortgage rates were also expected to rise in line with the central bank increase.
In a statement, central bankers hinted that they want to keep a lid on inflation and intend to continue to raise interest rates.
However, they also suggested that doesn't mean they'll raise rates at every scheduled opportunity.
"Further reduction of monetary stimulus (higher interest rates) will be required over time to keep inflation on target, with the pace depending on the bank's continuing assessment of the prospects for factors that affect pressures on capacity and, hence, inflation," central bankers wrote in a statement.
Although the economy is adjusting to surging oil prices and a stronger Canadian dollar, it doesn't appear likely to catch fire, the central bank said.
Those factors - particularly strong oil prices that closed near $54 US per barrel on Monday - will hold growth a bit below three per cent next year before rising a bit above three per cent in 2006, they predicted.
Still, the bank is keeping a wary eye on inflation and has started tightening borrowing costs now to head off too strong a rise in consumer prices down the road.
Bank of Canada governor David Dodge is scheduled to release his Monetary Policy Report on Thursday expanding on the bank's view of the economy, including an updated outlook for growth, inflation and interest rates.
Analysts have been divided on whether the central bank will hike rates once again in December at the bank's final scheduled interest rate announcement for this year or wait until early next year.
Either way, Canadian interest rates must continue to rise towards what are considered more neutral levels, said Ted Carmichael, chief Canadian economist with J.P. Morgan.
Many analysts say a neutral overnight rate would be something around four to 4.5 per cent - well above the current 2.5 per cent.
"The bottom line is that the policy rate remains below what anyone considers neutral and the bank is in the process of moving the policy rate back to a neutral position," said Carmichael.
The bank last boosted borrowing costs by a quarter of a percentage point Sept. 8, reversing course after lowering interest rates as recently as April when it saw fewer signs of brewing inflation and tried to give the economy a bit of a boost.
The trend towards higher rates has helped to lift the loonie in recent weeks and Tuesday was no exception.
After slipping a bit in trading Monday, the currency rose after the rate increase by a quarter of a cent to 79.75 cents US by late Tuesday morning.
The Bank of Canada aims to keep the core rate of inflation - which excludes some volatile food and energy prices - at about two per cent, calculating that at that level it can ensure healthy economic growth but not so strong a pace as to drive up the cost of living too much.
New inflation figures are due next week, but the latest available statistics showed that in August, core inflation slid to 1.5 per cent.
Despite a surge in oil prices, the economy should continue to grow at a healthy if not fiery pace through the end of 2006, moving core inflation back to about two per cent by the end of next year, central bankers said in their statement.
Overall inflation might move "well above core inflation" in the first half of next year, then drop back below two per cent in 2006, the bank added.
Tuesday's rate increase also moved up the bank rate - which used to be the most closely followed policy rate - to 2.75 per cent.