Bank of Canada surveys show weak business environment, lower inflation expectations

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High interest rates are bringing down inflation expectations and slowing the pace that businesses are raising prices, while also creating considerable financial hardship for households, according to a pair of Bank of Canada surveys published Monday.

The central bank’s Business Outlook Survey for the fourth quarter of 2023 found Canadian companies are experiencing slowdowns in sales and increased competition. As a result, fewer businesses are planning larger-than-normal price increases in the coming year.

A separate survey of consumers found that Canadians are growing more pessimistic about the economy and pulling back on spending.

Taken together, the quarterly surveys reinforce the view that tight monetary policy is acting as a brake on the economy and reducing inflationary pressures. That supports market expectations that the central bank will hold interest rates steady at its next rate announcement on Jan. 24, and that it will begin lowering rates in the coming quarters.

The survey of about 100 companies, conducted in the second half of November, shows a weakening business environment. Nearly 40 per cent of the survey respondents saw outright declines in sales over the past year. And indicators of future sales – including order books, advance bookings and sales inquiries – remained subdued.

The dour outlook for demand is feeding into weaker investment intentions and hiring plans.

“Most firms do not feel the need to add new staff and are experiencing less-intense labour shortages than 12 months ago,” the Bank of Canada said.

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Companies still expect to raise wages faster than normal over the next year as a result of cost-of-living adjustments. However, three-quarters of the survey respondents expect wage growth will be back to pre-COVID-19 norms by 2025.

Over all, business expectations of future inflation continued to ease in the fourth quarter, albeit very slightly. About one-quarter of the companies surveyed said inflation won’t return to the Bank of Canada’s 2-per-cent target in the next four years. The bank is watching inflation expectations closely, as beliefs about future inflation feed into today’s price-setting decisions and wage negotiations.

“The downbeat tone around business activity and consumer spending fits with the notion that the Bank of Canada has done enough to reduce demand,” Robert Both, senior macro strategist at Toronto-Dominion Bank, wrote in a note to clients.

“But whether it has enough conviction that we remain on a sustained path to 2 per cent despite elevated near-term inflation/wage expectations is far less certain.”

The consumer survey and accompanying interviews, conducted from the beginning of November through the first week of December, mirrored the gloomy sentiment found in the business survey.

“Consumers continued to report feeling the negative impacts of high inflation and high interest rates, and more than last quarter are cutting their spending in response. Further spending adjustments are expected, with many mortgages coming up for renewal in the near term,” the Bank of Canada said.

Survey respondents reported feeling worse about their personal finances and more wary about the job market. People saw a higher likelihood of losing their jobs and a lower chance of switching jobs voluntarily.

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On the question of inflation expectations, the survey results were mixed. Consumer beliefs about near-term inflation have barely budged in recent quarters, with people consistently expecting inflation to be around 5 per cent in a year’s time. However, expectations for inflation five years out have now fallen below prepandemic levels.

Consumers increasingly expect inflation to moderate for key goods such as food and gas. But they think service prices, especially rents, will continue to rise quickly, and that “may be slowing progress in returning overall inflation expectations to where they were before the COVID‑19 pandemic,” the bank said.

The two surveys are among the last pieces of information the Bank of Canada will receive before its interest-rate decision next week. The final key bit of data, the Consumer Price Index inflation numbers for December, will be published by Statistics Canada on Tuesday.

“Over all, businesses and consumers are feeling the pain of higher interest rates and are responding accordingly,” Royce Mendes, head of macro strategy at Desjardins, wrote in a note to clients about the surveys.

“With the Bank of Canada’s medicine now clearly working as intended, central bankers are likely to sound more dovish later this month when they hold rates steady for a fourth consecutive time.”