After a first interest rate cut in June, the Bank of Canada again lowered its key overnight rate by 0.25 percentage points to 4.5 percent.–Royal Bank of Canada
Why did the Bank of Canada cut its policy interest rate in two successive months?
The Bank of Canada cut its policy interest rate in both June and July because its mid-2024 forecast was that inflation was heading toward target, real GDP growth rate was slowing, and the unemployment rate was rising.
The Bank of Canada led with interest rate cuts in June and July: Did it lead with rises too?
Figures 1 and 2, which compare the timing of interest rate rises and the size of the rises, answer this question.
Figure 1 compares the Bank of Canada’s policy rate with the equivalent interest rate set by the U.S. Federal Reserve by plotting the two rates and the gap between them.
Between March and November 2022, the Bank of Canada raised its policy interest rate earlier than the Fed, and in bigger jumps, so the Canadian policy rate exceeded the U.S. rate. After November 2022, the Fed made two rate rises while the Bank of Canade held its rate constant, so the U.S. policy rate exceeded the Canadian rate.
Figure 2 compares the Bank of Canada’s policy rate with the equivalent interest rate set by the Bank of England.
The Bank of England moved first with a rise to 0.25 percent in December 2021, almost three months ahead of Canada, and the U.K. policy rate remained higher than the Canadian rate until April 2022. But a cautious Bank of England kept its interest rate on a lower path than the Canadian rate until mid-2023, after which it raised its interest rate above the Canadian rate.
To summarize:
- The Bank of Canada led against the Fed in both timing and jump size until late 2022, after which the Fed had the higher interest rate
- The Bank of England led against the Bank of Canada on timing, but smaller U.K. rate rises let the Canadian interest rate exceed the U.K. rate until mid-2023.
Did the Bank of Canada do a better job than the Fed of controlling inflation?
Figure 3 answers this question.
The two inflation rates followed similar paths, peaking in June 2022, and falling to below 3 percent per year by June 2023, but from mid-2021 to the end of 2022, Canadian inflation was lower than U.S. inflation by up to 2 percent per year.
Did the Bank of Canada do a better job than the Bank of England of controlling inflation?
Figure 4 answers this question.
When the Canadian inflation rate peaked in June 2022, U.K. inflation kept rising until October 2022, when it peaked at 9.6 percent per year.
The gap between U.K. and Canadian inflation rates kept increasing until mid-2023, when it reached more than 4 percent per year.
So, which central bank did the best job?
The answer is the Bank of Canada. It raised its policy rate faster and more decisively than the Fed, which kept Canadian inflation below the U.S. rate. And although the Bank of Canada started raising its rate later than the Bank of England, once started, it chose a steeper and more decisive path that kept the Canadian inflation rate well below the U.K. rate.
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