Good morning!
If Bank of Montreal economists are correct, Canadians may want to hold onto their wallets in 2023 because price pressures aren’t about to disappear just yet.
Canada is likely in for another year of elevated inflation, at least one more interest rate hike and a continued downturn in the housing market, BMO said in a note predicting the top economic trends for 2023. A mild recession and lower than normal Canadian dollar are also in the cards.
Inflation is first on the list, and BMO’s economists believe both headline and core readings will stay stuck above three per cent. That doesn’t mean prices of goods won’t come down at all, though. As supply chain pressures continue to ease, energy prices stabilize and interest rates do their work, headline inflation should improve, and consumers should see price increases level off.
But core inflation could prove a little more sticky. The measure, which excludes volatile food and energy prices, ticked up to five per cent in November, from 4.9 per cent in October, Statistics Canada data shows. That reflects an increase in the price of services, which BMO said are now bearing the brunt of inflation. That’s a problem, because price increases in services are historically much more difficult to correct.
A wild card in the form of unexpected wage increases could also put added pressure on services. If that happens, prices could rise five per cent or more in the first part of 2023, BMO said.
An inflation rate of three per cent or more is much too high for the Bank of Canada’s comfort. Governor Tiff Macklem has said he will do what it takes to get it down to two per cent, and that means interest rates are likely to go higher still. BMO expects at least one more interest rate hike this year, with even more expected in the United States and Europe. It also means consumers shouldn’t bet on interest rates coming down this year.
“We believe the main story is that there will be no scope for rate cuts in the year ahead, and that central banks will maintain these relatively high rates until underlying inflation is truly cracked — and that process will take time,” chief economist Douglas Porter wrote in the note. “We don’t look for rate relief until 2024.”
The economy won’t be able to escape central bankers’ medicine to tame inflation, and BMO predicts Canada will succumb to a mild recession sometime in 2023. The timing isn’t clear thanks to strong consumer spending which helped propped up the economy late into 2022. But, make no mistake, “monetary policy ultimately does work,” the note said.
Meanwhile, persistent high interest rates will continue to wallop the housing market. BMO expects home prices to drop a further 12 per cent, sales to fall 15 per cent and homebuilding to crater this year. It will be “impossible” for governments to deliver double the rate of housing starts they’ve promised in the years ahead as the economic situation weighs on the market.
“Lofty policy pronouncements of cranking up housing starts will be no match for the cyclical reality of high interest rates, suddenly soggy demand and falling home prices,” Porter said.
As for the Canadian dollar, it is unlikely to gain much strength this year, even though it will benefit from a weaker United States dollar once the Federal Reserve pauses its interest rate increases. BMO expects the average exchange rate for the loonie to hover just below $1.33, or 75 cents U.S.
BMO has a pretty good track record with predictions. Last year, four out of its top five calls became reality, earning it a “passing grade” amid a challenging year for forecasters, it said.
