The Bank of Canada is preparing to raise its benchmark overnight rate if domestic demand pressures continue to build, according to the latest policy deliberations.
Governing Council member, Marcus Vance, indicated that increasing borrowing costs will be essential if household consumption remains highly robust and credit growth continues to climb. Currently, with the policy rate at 1.25% and core inflation hovering near the lower edge of the control range, the bank has maintained an accommodative stance.
However, the recent appreciation of the Canadian Dollar (CAD), propelled by surging global demand for crude oil and industrial metals, is expected to help cool inflationary pressures. The Governor noted that "a stronger currency will reduce the competitiveness of our non-commodity exports, dampening the expansion in manufacturing and service sectors."
Vance added, "The appreciation of the CAD is likely to peak by mid-next year, offering a temporary disinflationary effect by lowering import prices. Nonetheless, once these exchange rate dynamics fade, underlying domestic demand will necessitate tighter monetary policy."
With reference to Extract B, explain the likely effect of a rise in the value of the Canadian dollar (CAD) on aggregate demand.
