To combat a recession or other economic Black Swans, central banks artificially lower their key lending rate, in an effort to encourage borrowing and spending, which in turn, juices the economy. Central banks around the world slashed their rates to near historic lows during COVID-19 to do just that. The Bank of Canada has held its key interest rate at a historic low of 0.25% since March 2020.
Fast forward to 2022 and the global economy is on fire, with inflation at 40-year highs. Economists knew that inflation could be an issue as the economy reopened, but most central banks said inflationary spikes would be short-term. After months of higher inflation, they changed their tune to say it was transitory.
Most analysts now believe inflation is permanent and sustained. Dave McKay, President and CEO of Royal Bank of Canada believes the Bank of Canada needs to take “rapid action” to tame inflationary pressures. The only way to do that is with numerous interest rate hikes.
How Does Rising Rates Affect Stocks?
Few Canadians want to see interest rates go up, it increases the costs of groceries, gas, and clothing and makes borrowing more expensive. But according to recent polls, the higher cost of living is the top financial worry among Canadians. In fact, 59% of Canadians say they expect it to be their biggest concern this year. 49% of Canadians say higher fuel costs and transportation are their biggest cause for concern.
Higher inflation is also a huge concern for Bay Street and Wall Street CEOs. According to a Conference Board survey, C-suite executives cite inflation as their second biggest concern in 2022. That’s up from 22nd place in 2021.
A majority of executives (55%) believe prices will remain elevated through 2023 as labour shortages and supply chain disruptions continue. To combat rising inflation, they plan to pass on those rising costs to Canadians.
The best way to deal with inflation is through monetary policy. Bay Street is pricing in at least five Bank of Canada rate hikes in 2022, with the first hike expected as early as January 26, the next time policy makers meet. Five hikes would increase interest rates from 0.25% to 1.25%.
That’s still low historically. From 1990 through 2021, the average interest rate was 5.8%. But that increase could still be damaging to Canadian households and businesses. When rates go up businesses and consumers spend less.
We saw the opposite take place when interest rates were low during the pandemic. Spending increased, earnings were strong, shares are at record levels, and inflation is skyrocketing.
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Lower interest rates helped Canadian weather the pandemic, but with the economy reopened, lower rates have also fueled soaring interest rates. The best way to combat inflation is with rate hikes. But interest rate hikes can negatively impact the stock market. The trading experts at Learn-To-Trade.com can show you how to navigate a rising interest rate environment and teach you how to make money no matter what the markets are doing.
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