Bond markets are demanding ‘credibility’ and could force the Bank of Canada to hike rates this year, says KPMG

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Photo by HYUNGCHEOL PARK/Postmedia filesThe Bank of Canada is going to have to “feed the beast” that is the bond market with one rate hike before the year is out, says KPMG Canada.THIS CONTENT IS RESERVED FOR SUBSCRIBERS ONLYSubscribe now to read the latest news in your city and across Canada.Exclusive articles from Barbara Shecter, Joe O'Connor, Gabriel Friedman, and others.Daily content from Financial Times, the world's leading global business publication.Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account.National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on.Daily puzzles, including the New York Times Crossword.SUBSCRIBE TO UNLOCK MORE ARTICLESSubscribe now to read the latest news in your city and across Canada.Exclusive articles from Barbara Shecter, Joe O'Connor, Gabriel Friedman and others.Daily content from Financial Times, the world's leading global business publication.Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account.National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on.Daily puzzles, including the New York Times Crossword.REGISTER / SIGN IN TO UNLOCK MORE ARTICLESCreate an account or sign in to continue with your reading experience.Access articles from across Canada with one account.Share your thoughts and join the conversation in the comments.Enjoy additional articles per month.Get email updates from your favourite authors.THIS ARTICLE IS FREE TO READ REGISTER TO UNLOCK.Create an account or sign in to continue with your reading experience.Access articles from across Canada with one accountShare your thoughts and join the conversation in the commentsEnjoy additional articles per monthGet email updates from your favourite authorsSign In or Create an AccountIt’s changed its call for no rate hikes in the near term to one 25-basis-point increase at the Dec. 9 meeting that would take the benchmark lending rate to 2.5 per cent, where it would remain for the foreseeable future, Ali Jaffery, chief economist at KPMG Canada.This advertisement has not loaded yet, but your article continues below.“The bond market is demanding that policy become more credible — whether that is monetary, fiscal or otherwise — in a world where capital is in high demand,” he said in a note on Friday. “The principle makes sense, but the magnitude of the moves (in bond yields) has revealed that this is a shoot-first-ask-questions-later approach to global inflation and fiscal sustainability issues.”SUBSCRIBER EXCLUSIVE: FP West: Energy Insider brings you behind the oilpatch’s closed doors with exclusive insights from insiders every Wednesday morning.By signing up you consent to receive the above newsletter from Postmedia Network Inc.A welcome email is on its way. If you don't see it, please check your junk folder.The next issue of FP West: Energy Insider will soon be in your inbox.We encountered an issue signing you up. Please try againBy “credible,” Jaffery said he means bond markets are demanding policymakers show they’re taking the inflation threat posed by the energy crisis seriously as well as the debt dilemmas that risk boiling over the United States, France and Japan.“But what really worries me right now is that the bond market is being indiscriminate,” he said.Fiscal policy in Canada on a federal level is “pretty reasonable,” he said, and monetary policy — interest rate setting — isn’t terrible either given the state of Canadian economy.“The bond market is now imposing a premium and Canada is being swept up in that,” he said.Global bond rates have been on the rise and Canada hasn’t been spared.The Government of Canada five-year bond yield on Monday was nearing four per cent, almost 100 basis points higher than a year ago, with nearly 40 per cent of the increase coming last month.This advertisement has not loaded yet, but your article continues below.He said another reason for the rise in Canadian yields is “the ill-timed hawkish tone from Bank of Canada governor Tiff Macklem at the last press conference (on interest rates),” where he indicated the greater threat to the economy was inflation from high energy prices, not U.S. tariffs.Jaffery traces the start of that 40-basis-point increase to Macklem’s “tough talk” at the Sept. 2 rate announcement.Normally, he said, job reports and several consumer price index reports would rule on rates, but oil prices are now in the “driver’s seat,” so bond investors are demanding more than talk.Jaffery also said it could prove harder for the Bank of Canada to resist the rise in U.S. interest rates because the increasing spread between the those and Canadian rates devalued the Canadian dollar, which could speed up inflation.Long-term bond yields continue to rise despite weaker-than-expected U.S. economic data, which could stop the U.S. Federal Reserve from hiking rates in October, after raising them in September.Karl Schamotta, chief market strategist at Corpay Inc., said yields are tracking oil prices “far more closely” than inflation.This advertisement has not loaded yet.This advertisement has not loaded yet, but your article continues below.“That suggests investors believe central bank reaction functions have shifted, with policymakers now responding more to moves in oil benchmarks than to core price measures,” he said in a note on Monday, referring to core inflation, which strips out volatile items such as gasoline and food.Schamotta said bond markets are basing their belief that monetary orthodoxy has shifted on the public appearances of several central bank leaders, including Macklem, where they indicated they would no longer “look through” the price moves of commodities when it came to rate setting.Jaffery is among several economists who have recently changed their outlook for rates. Others, including those at Bank of Nova Scotia, UBS AG, Manulife Financial Corp. and Oxford Economics Ltd., are now predicting a hike at the Oct. 28 Bank of Canada meeting.“We see merit in the Bank of Canada feeding the beast with one performative hike, demonstrating that it will do its part to remove some monetary accommodation and then move back into wait-and-see mode, watching the energy market and letting the data speak,” he said. “It feels like the most reasonable compromise at this point, given the nascent economic recovery and elevated trade tensions.”This advertisement has not loaded yet.Notice for the Postmedia NetworkThis website uses cookies to personalize your content (including ads), and allows us to analyze our traffic. Read more about cookies here. By continuing to use our site, you agree to our Terms of Use and Privacy Policy.