Will Russia’s invasion of Ukraine delay next week’s interest rate hike?

Written by
Penelope Graham

Russia’s large-scale invasion of Ukraine has dramatically heightened geopolitical tensions, not to mention economic uncertainty; NATO members reacted quickly with sanctions, while Germany announced it was delaying progress on the Nord Stream-2 pipeline, cutting off what was expected to be a major supply of Russian natural gas to Europe .

As a result, world stock markets and oil prices reacted with considerable volatility yesterday: the NASDAQ and S&P 500 plunged into bearish territory before a late-day rally, while global oil prices briefly rose above $100 a barrel.

While the initial market reaction has since subsided, uncertainty over future developments raises questions on the home front regarding monetary policy: Could Russia’s invasion of Ukraine force the Bank of Canada to move in a new direction with next Wednesday’s interest rate announcement? ?

Rate hikes are still coming – but the pace may slow

With the Bank weighing heavily on geopolitical disputes in its strategy, consumers can still expect their cost of borrowing to rise next week.

Benjamin Reitzesmanaging director, Canadian Rates & Macro Strategist at Bank of Montreal, told STOREYS that recent events will not prompt the central bank to reverse course from its already underway increase – but it may require a less aggressive approach. as the rising cycle unfolds.

“Our expectations have not changed at this point. We were expecting a 25 basis point rate hike on March 2, and we still expect a 25 basis point rate hike on March 2,” says -he.

“What might have changed a bit for the market is that there were people talking about a potential 50 basis point move. I think the likelihood of that is already slim, but now it should be completely irrelevant.

“But, the reality is that the drivers of policy change at the bank, those factors haven’t changed. Inflation is still high… the macroeconomic impact on Canada is expected to be relatively small.

Read: Inflation in Canada hit 5.1% in January, its highest level since September 1991

mortgage analyst Robert McLister agrees, saying the BoC faces too much inflationary pressure to delay taking off rates any longer.

“There was no justification for keeping rates near zero last month and there will be no justification next week. Inflation is dangerously high and getting worse. The Russian conflict could exacerbate it, especially if oil stays above $100 a barrel, the Bank’s obligation to adjust rates to a more appropriate level is no less urgent today,” he said.

“The conflict could change the pace and trajectory of monetary tightening, but not the start of the rate hike cycle. The market odds of a rate hike next Wednesday remain at 100%. And traders are still forecasting around six hikes this year, like last week. »

Energy prices remain the barometer of the Canadian economy

Since Canada has no significant direct trade or investment with Russia or Ukraine, energy prices will have the most direct impact on our economy and, by extension, monetary policy and the cost of borrowing. Had yesterday’s oil price surge above the $100/bbl market (its first since 2014) been prolonged – or is it expected to recur – it will amplify the already considerable pressure on inflation, which has hit a 30-year high in January due to pandemic-induced supply chain imbalances.

Read: Could rate hikes lead to a 20% drop in house prices?

“This latest spike in oil prices complicates an already challenging inflation backdrop,” writes Douglas Porter, chief economist and managing director of economics at BMO, in a special report. “Every $10 rise in oil tends to raise headline inflation in the United States and Canada by about 0.4 percentage points. And note that January’s already high readings – 7.5% in the US and 5.1% in Canada – hadn’t fully accounted for Oil’s rise to $90, let alone $100. Thus, if prices remain at current levels or rise, this factor alone could push headline inflation up by about 0.6 percentage points.

So far, April Brent futures have eased 79 cents to $98.29, after yesterday’s high at $101.99, while WTI has fallen 2 cents to 92, $79, after hitting $95.65, giving the Bank of Canada some breathing room from rising energy-induced inflationary pressure.

Could lower fixed rates be in store?

As expected during a market crisis, investors reacted by piling on safe-haven options, namely bond yields. the five-year Canadian government bonds briefly absorbed a five basis point drop on news of the invasion, before stabilizing at 1.74% at the close. Continued investor interest will continue to drive down yields – and ultimately the fixed cost of borrowing. But analysts say it’s too early to make a final decision.

“I would wait to see and get an update on where things are headed, but you’re not going to get a knee-jerk reaction to a relatively small, large-scale move now; five-year bonds are only five basis points lower, and at this point the Bank of Canada is looking more at the accompanying movement in the prime rate that accompanies the change in its policy rate, more than a change policy rates and interim rates, because you’ve had a lot of that movement already because serious rate hikes are already priced into the market,” Reitzes says.

“If things were to get worse and we got a continuation of the rate hike, that would change things, but we’re not there yet.”

McLister added, “Russia’s isolation and deteriorating confidence in Europe will hurt global growth, but the Canadian economy should be spared significant collateral damage. For yields to dip amid soaring inflation and robust employment, markets will need to see much clearer signs of domestic risk. Today’s rebound in yields and rally in equities tell us all there is to know about real market concern.

Written by
Penelope Graham

Penelope Graham is the editor of STOREYS. She has over a decade of experience in real estate, mortgages and personal finance. His commentary on the housing market is featured frequently in national and local media, including BNN Bloomberg, CBC, The Toronto Star, National Post and The Globe and Mail.

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