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Bank of Canada holds key interest rate at 1.75%

Bank of Canada holds key interest rate at 1.75%


Financial

Bank of Canada holds key interest rate at 1.75%

The Bank of Canada will end 2019 as one of the only central banks that navigated the trade wars without cutting interest rates this year.Governor Stephen Poloz and his inner circle of deputies on Dec. 4 left the benchmark rate unchanged at 1.75 per cent, citing recent data showing the third quarter was stronger than…

Bank of Canada holds key interest rate at 1.75%

The Bank of Canada will end 2019 as one of the only central banks that navigated the trade wars without cutting interest rates this year.

Governor Stephen Poloz and his inner circle of deputies on Dec. 4 left the benchmark rate unchanged at 1.75 per cent, citing recent data showing the third quarter was stronger than expected.

It was the ninth consecutive meeting at which the central bank opted to stay the course, a remarkable streak considering what’s happening elsewhere.

The past 12 months have brought dozens of interest-rate cuts by some 40 central banks in response to the weakest global outlook since the Great Recession a decade ago. The waves of monetary stimulus have receded lately, but a palpable sense of worry remains.

Earlier this week, the Reserve Bank of Australia, which dropped its policy rate three times between June and October, left borrowing costs unchanged, but not on a cheery note. Philip Lowe, the bank’s governor, said “it was reasonable to expect that an extended period of low interest rates will be required in Australia to reach full employment and achieve the inflation target,” and that he was “prepared to ease monetary policy further if needed.”

Canada’s central bank offered no such guidance.

Policymakers seem cautiously optimistic that Canada has survived the storm, noting that business investment “unexpectedly showed strong growth” in the third quarter, and that recession fears appear to be waning. They also said they would continue to be guided by incoming data, which have remained broadly positive even as exports deteriorated over the course of the year.

“The bank’s October projection for global economic growth appears to be intact,” the statement said. “There is nascent evidence the global economy is stabilizing, with growth still expected to edge higher over the next couple of years.”

As a result, some investors and analysts were forced to rethink their outlook for interest rates. Nathan Janzen, an economist at Royal Bank of Canada, informed his clients that the new policy statement, combined with recent data, makes the bank’s current forecast of an interest-rate cut in 2020 “look less likely.” The value of the Canadian dollar rose, a sign traders were discounting the possibility of lower interest rates.

“If the global outlook improves, we would not be surprised to see the (Bank of Canada) considering raising rates again given at-target inflation, strong labour and housing markets, and a closing of the output gap,” Veronica Clark, an economist at Citibank, said.

The output gap is the difference between the Bank of Canada’s estimate of what the Canadian economy can produce without stoking inflation and the current level of output. The central bank said in its latest quarterly report on the economy that it thought the gap in the third quarter was between zero and minus one, or essentially closed. The new policy statement notes that inflation is expected to hover around the central bank’s two-per-cent target, “consistent with an economy operating near capacity.”

To be sure, the flicker of hope that the global economy has taken a turn for the better could prove ephemeral.

The trade wars had quieted as the bank’s Governing Council wrapped up its latest round of deliberations earlier this week. But in the past 48 hours, Donald Trump’s administration has threatened France with retaliatory tariffs and said it was scrapping an agreement that shielded Argentina and Brazil from steel levies. The U.S. president also said that an anticipated peace deal with China may not happen after all.

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Stock markets tumbled from record highs as Trump opened new fronts in his trade wars, and then recovered somewhat on Dec. 4 after Bloomberg News reported that the U.S. and China were close to an agreement that would reduce some tariffs.

“Ongoing trade conflicts and related uncertainty still are weighing on global economic activity, and remain the biggest source of risk to the outlook,” the Bank of Canada said.

But for now, the Canadian central bank appears pleasantly surprised by the country’s economic resilience.

Gross domestic product in the third quarter increased at an annual rate of 1.3 per cent, an uninspiring result, but exactly the outcome that the Bank of Canada had predicted. Policymakers observed that consumer spending and housing remained sources of “strength.”

They clearly didn’t anticipate adding business investment to that list. That growth engine roared back to life in the third quarter, posting growth at an annual rate of 9.5 per cent — reversing a seven per cent drop in the second quarter — led by spending on transportation equipment and engineering projects. But officials indicated they weren’t quite ready to believe investment is as solid as the new numbers indicate.

“The bank will be assessing the extent to which this points to renewed momentum in investment,” the statement said.

Still, evidence of a rebound in investment is reason to leave interest rates unchanged, at least until the central bank updates its forecasts in January.

Policymakers said they continue to “monitor the evolution of financial vulnerabilities related to the household sector,” which is how the Bank of Canada expresses its concern about elevated levels of household debt. Credit growth has jumped to its fastest in a couple of years, a reminder that Canadians will borrow as much as their banks will give them.

The resurgence is being driven by lower mortgage rates, which fell as the U.S. Federal Reserve cut borrowing costs this summer. The Bank of Canada will resist adding extra incentives for as long as it can.

Financial Post

• Email: kcarmichael@nationalpost.com | Twitter: carmichaelkevin

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Financial

Bank of Canada holds key interest rate at 1.75%

The Bank of Canada might have have cut interest rates this week if it was confident we wouldn’t go on another debt binge.But it wasn’t, so it left the benchmark rate at 1.75 per cent even as it cut its outlook for economic growth in 2020, predicting the trade wars will cause exports and business…

Bank of Canada holds key interest rate at 1.75%

The Bank of Canada might have have cut interest rates this week if it was confident we wouldn’t go on another debt binge.

But it wasn’t, so it left the benchmark rate at 1.75 per cent even as it cut its outlook for economic growth in 2020, predicting the trade wars will cause exports and business investment to temporarily contract in the near term.

“Governing Council considered whether the downside risks to the Canadian economy were sufficient at this time to warrant a more accommodative monetary policy as a form of insurance against those risks, and we concluded that the were not,” Stephen Poloz, the governor, said in prepared remarks ahead of his quarterly press conference in Ottawa on Oct. 30.

Governing Council is mindful that the resilience of Canada’s economy will be increasingly tested as trade conflicts and uncertainty persist

Bank of Canada

“In this setting, we discussed whether such insurance may come at a cost, in the form of higher financial vulnerabilities and possible consequences for the economy and inflation in the future,” he continued. “We agreed that the new mortgage rules in place limit this cost, but the situation will require continuous monitoring.”

The opening statement is an important document because it’s the closest thing we have to a record of the deliberations between Poloz and his five deputies. It’s the best place to look for clues on about how much confidence policy makers have in their policy stance. The latest readout shows that Canada’s central bank could soon give up its lonely stand against the trade wars and cut interest rates. More than 30 of its peers have already done so this year, including the U.S. Federal Reserve, which dropped its benchmark rate a third time hours after the Bank of Canada opted to hold steady.

“Governing Council is mindful that the resilience of Canada’s economy will be increasingly tested as trade conflicts and uncertainty persist,” Poloz said. “We are not an island,” he added later in response to a question. “We are in a good position to cope with whatever comes our way.”

Canada’s dollar dropped about half a cent against the U.S. currency, as investors reset the odds of future interest-rate cuts.

The loonie has been one of the stronger currencies this year, defying its typical correlation with commodity prices, which have been falling along with the prospects for global growth.

Relatively higher interest rates make Canadian bonds attractive, especially when so much European debt earns a negative yield. The currency appears to have pushed the Bank of Canada closer to an interest-rate cut. Policy makers aren’t guided by a particular exchange rate, but they know that a stronger dollar will crimp exports, which would slow economic growth and put downward pressure on inflation.

“Commodity prices have fallen amid concerns about global demand,” the central bank said in its policy statement. “Despite this, the Canada-U.S. exchange rate is still near its July level, and the Canadian dollar has strengthened against other currencies.” At the press conference, Poloz said he sensed that the dollar’s appreciation against various currencies was beginning to “bite” at the margin.

The Bank of Canada has been able to stick to its own path for two main reasons.

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One is that Canadian rates already were low when the trade wars started. As the Fed pushed U.S. borrowing costs higher, the Bank of Canada was forced to drop its benchmark rate back to an emergency setting after oil prices collapsed at the end of 2014. The Fed’s latest cut dropped the official U.S. rate below the Bank of Canada’s benchmark for the first time since 2016.

The other reason is that domestic economic data hasn’t given the Bank of Canada a reason to change course.

Inflation in many rich economies has been weak, threatening deflation. In Canada, inflation has been consistently around two per cent, the central bank’s target. The jobless rate is about as low as it’s ever been, and wages this year have accelerated to an annual growth rate of around three per cent, a pace the central bank associates with a healthy economy. The housing market rebounded from a swoon at the start of the year, supported by lower mortgage rates, employment growth and immigration.

“Domestically, everything looks super good,” Thorsten Koeppl, an economics professor at Queen’s University, said in an interview. “The elephant in the room is the divergence of the Bank of Canada and the rest of the world,” he added. “You see what other central banks are doing. That’s a signal.”

Poloz and his deputies appear to agree that the country’s run of relatively good fortune could be nearing an end.

The elephant in the room is the divergence of the Bank of Canada and the rest of the world

Thorsten Koeppl, an economics professor at Queen’s University

They cut their outlook for global economic growth in 2019 to 2.9 per cent, the weakest since the financial crisis, and said Canada’s gross domestic product will expand only 1.6 per cent next year, compared with a previous estimate of two per cent. That rate of growth would be slower than the central bank’s estimate of how fast the economy can expand without triggering inflation (1.7 per cent), suggesting policy makers could feel compelled to cut interest rates in order to resist disinflationary pressures.

To be sure, an interest-cut isn’t a sure thing.

Because the central bank is wary of re-igniting excessive household borrowing, it will need certain evidence that the economy is in trouble. Fiscal policy could end up doing some of the work of offsetting weaker global growth, if politicians make good on some of their election promises.

The Bank of Canada said it will be paying “close attention to the sources of resilience in the Canadian economy — notably consumer spending and housing activity — as well as to fiscal policy developments.”

The final part of that statement might also have been a suggestion. It looks like the economy is going to need help from someone, and the central bank might like it if Parliament did its part.

• Email: kcarmichael@nationalpost.com | Twitter: carmichaelkevin

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