“Strong Demand driving economic growth, could mean higher interest rates”- Canadian Press, April 27, Sandra Cordon
http://www.canada.com/ottawacitizen/news/story.html?id=ef61a5ed-f503-476c-b766-dbb654621374&k=4363&p=2
Summary
It was reported by the Bank of Canada that strong demand in Canadian resources and domestic good has caused gross domestic product to increase, and higher interest rates might be the solution to keep inflation down. It is expected that the GDP growth will be 3% (as compared to 2.9% in a previous prediction) for 2007 and 2.9% for 2008. The forecasted growth is even more in the United States which leads to higher demand for Canadian exports. The central bank is debating whether to increase interest rates at least one more time to off-set inflation. Balancing inflation is not an easy task especially when high energy prices can create volatility in inflation rate. Due to the strong Canadian dollar, high and volatile energy costs are off-set by reduced price of imported goods. Also, government’s plan to cut GST by 1% will help decrease inflation. Globally, the growth averages to 4.8% because of amazing growth in China and in other parts of Asia. Housing investment also increases, which is surprising; despite the increase in interest rate.
Relationship and Reflection
When inflation increases, one way to counter-balance it is to raise the interest rate. The decision on whether or not to invest often depends on the cost of borrowing. If borrowing costs (interest rates) are high, then investment spending will be reduced. Some equipment purchase that is regarded as marginally profitable will be abandoned. When interest rates are high, households are encouraged to save money because the return they get for leaving money in the bank or other financial institutions are also high.
Manipulating interest rates is a good strategy to off-set GDP increases and inflation since spending is sensitive to changes in interest rates. Furthermore, the decreases in investment and consumption have a multiplier effect on the GDP level. This multiplier effect also applies to changes in government tax. Therefore the 1% GST cut mentioned above will also have a rather significant impact on GDP.
posted by Tiffany King @ 11:37 PM
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