By Michael O’Neill

“Up” is a heartwarming animated adventure movie produced by Pixar and released by Walt Disney Pictures in 2009. The movie tells the tale of a 78-year-old man who fulfills his lifelong dream of adventure by tying thousands of balloons to his house and flying to a lost world in South America.

The policymakers at the Fed have taken inspiration from that fourteen-year-old movie, reimagining it to narrate the story of a 70-year-old Federal Reserve Chairman. In this version, they’re attaching thousands of balloons—symbolizing punitive interest rate increases—to mortgage holders.

“Up” is the direction for US interest rates, and “UP” is the duration for which interest rates will remain elevated. That’s a far cry from the market consensus following the May 10 FOMC meeting. At that time, economists, analysts, and an assortment of pundits were predicting the Fed’s first rate cut would occur in September. They weren’t perturbed that inflation was still more than twice the Fed’s 2.0% target. They turned a deaf ear to policymakers like New York Fed President John Williams, who may well have sung, “See you in September.” He didn’t believe rates would fall at all in 2023, and with less than two weeks to go until the next FOMC meeting, the rest of the market agrees. The old adage “Don’t fight the Fed” is proving true once more.

Higher US interest rates are far from a done deal. Federal Reserve Governor Christopher Waller said on September 5 that the latest economic data suggests, “there’s nothing that is saying we need to do anything imminent anytime soon, so we can just sit there, wait for the data, see if things continue.”

That doesn’t mean rates won’t rise. Mr. Waller noted that the job market is still historically strong and said, “so it’s not obvious that we’re in real danger of doing a lot of damage to the job market even if we raise rates one more time.”

However, if another rate hike won’t do much damage to the US economy, maybe OPEC will. Best buddies Saudi Crown Prince Mohammed Bin Salman and Russian President Vladimir Putin announced they would extend oil production cuts until the end of the year. Meanwhile, US crude inventories have declined by 41.4 million barrels since July 14. The only reason West Texas Intermediate isn’t trading over $100.00/b is because China’s economic performance is deteriorating. Analysts expect further contraction in the economy when Beijing releases GDP data for August next week.

The Alan Greenspan Fed achieved an economic “soft landing” in the mid-1990s, and Fed Chair Jerome Powell may have duplicated that feat.

Unfortunately, the Canadian economy may land with a thud if Bank of Canada Governor Tiff Macklem’s view is correct.

The Bank of Canada (BoC) left interest rates unchanged on September 6, and the next day, Mr. Macklem told a Calgary audience, “With past interest rate increases still working their way through the economy, monetary policy may be sufficiently restrictive to restore price stability.” That sentence sure sounds like he is saying Canadian interest rates have peaked.

But he isn’t.

He mentions that the BoC raised interest rates not once, but twice recently. He justified the increases by saying there was plenty of excess demand and stubborn underlying inflationary pressures. But even after those rate hikes, he is still worried that prices are going up too much, especially for everyday items like food and shelter. It’s like they’re saying, “We turned up the heat, but it’s not quite cool enough in the house.”

Mr. Macklem pointed out that inflation was around 3.3% in July, well above the Bank’s 2.0% target, and sounded disappointed that the key core inflation metric was still running at 3.5% and seemed to have limited downside momentum.

As usual, Mr. Macklem emphasized the importance of achieving the Bank’s 2.0% inflation target and said, “there may be a need to raise the policy rate further if inflationary pressures persist.” He is concerned that things have become more expensive, especially rent and home insurance.

So, in a nutshell, the speech is hawkish because despite raising interest rates in June and July, Mr. Macklem is still worried that inflation isn’t cooling off quickly enough.

Nevertheless, the Bank of Canada’s outlook for domestic interest rates takes a back seat to the US, and as long as traders keep believing that US rates will stay UP, the Canadian dollar has limited upside.