Bank of Canada urged to raise interest rates

The Canadian Press

July 10, 2008 at 4:04 PM EDT

OTTAWA — The Bank of Canada should move to head off inflation in the country by raising interest rates next week for the first time in a year, says a consensus view by a deeply divided panel of nine economists associated with the C.D. Howe Institute.

A closer look suggests the economic think tank’s monetary policy council was almost evenly divided 5-4 between those favouring a rate increase and those who thought the central bank should leave the rate unchanged.

Four members were in favour of the central bank leaving its overnight interest rate unchanged at 3.0 per cent next Tuesday, four others advocated a quarter-point increase and one wanted a half-point increase.

The overnight rate is a benchmark that is used by commercial banks when they set various other lending rates, including for shorter-term mortgages.

“Notwithstanding the division in opinion regarding the Bank of Canada’s July 15 decision, the main theme of the group’s discussion was concern about rising inflation and rising inflation expectations,” the institute said in a release.

“Several members argued that the Bank of Canada should act aggressively to prevent expectations of higher inflation becoming more pronounced and affecting price and wage setting.”

The economists cited high oil prices, the increased likelihood inflation will move above the upper end of the bank’s target range of one to three per cent, rising wages and a recent Bank of Canada business survey that found 42 per cent of firms planned to increase prices for their products.

The private-sector think thank said economists who favoured no action said they were concerned about the slumping economy, but even in this group, most saw the rate going to at least 3.25 per cent in the next six to 12 months.

The Bank of Canada uses monetary policy to keep inflation in check. Raising rates increases borrowing costs, thereby slowing down economic activity and growth.

The central bank began trimming the overnight rate from the then 4.5 per cent level in December as the economy began showing signs of slowing and perhaps contracting.

But after slicing 150 basis point from the overnight rate, following the lead of the United States, the Bank of Canada halted its easing policy last month, saying that inflation was beginning to re-emerge in Canada.

The bank last raised the overnight rate in July 2007.