Bank of Canada holds rate at 0.5 per cent
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Jan 20, 2016  |  Vote 0    0

Bank of Canada holds rate at 0.5 per cent

The Bank of Canada held its rate steady at 0.5 per cent but lowered its outlook for the economy, citing y


The Bank of Canada held its fire power and left its trendsetting overnight interest rate at 0.50 per cent Wednesday even as it downgraded its outlook for the economy.

The surprise decision came on a day when a worsening outlook for oil sent global financial markets into another tailspin.

While cutting its forecast by 0.6 percentage points to 1.4 per cent in 2016 and 2.4 per cent in 2017, the bank stopped short of lowering its benchmark interest rate by a quarter point.

That would have brought the rate back to its lowest level since the recession of 2008-09.

A rate cut normally boosts economic growth by lowering the cost of borrowing for consumers and business. And the bank was inclined to deliver one, Governor Stephen Poloz told a press conference in Ottawa.

But, in a rare glimpse into central bank thinking, Poloz said the bank’s governing council changed its mind after considering the potential negative impact on the Canadian dollar and the possible upside of the federal Liberals plan to boost government spending.

“We know the Canadian economy is absorbing a pretty substantial reduction in national income because of the lower price of oil,” Poloz said during a press conference in Ottawa. The bank has previously estimated the impact at $50 billion, or $1,500 a person, a year for the next three to five years.

“That effect initially is felt primarily in the energy exporting sector, by the companies and their employees. But the next phase is those employees who are laid off spend less money and that begins to affect everyone,” Poloz said.

As the dollar falls in tandem with oil, it raises prices of imports for everyone, Poloz added. “It means we have less spending money today than we did before, because oil prices are lower, even though you and I are not oil exporters.”

The hit at the grocery store is particularly noticeable at this time of year when Canadians rely more on imported fruits and vegetables, which were already higher due last summer’s drought in California, he noted.

For the average household, lower prices at the gas pump are more than offsetting higher prices for food, so far, he said. “But I sympathize with those for whom food is a bigger share of their total spending.”

A lower dollar is generally positive for the economy, helping it adjust to lower oil prices by making non-energy exports more competitive, Poloz said, but the adjustment takes time.

Canadian manufacturers saw sales rise a better-than-expected 1 per cent in November, Statistics Canada said in a separate announcement Wednesday, providing a glimmer of hope to an otherwise gloomy economic picture.

Economists applauded the bank’s stand-pat decision.

“It's a bit of a surprise, but the right call,” Avery Shenfeld, chief economist with CIBC World markets, said in an email. “Another rate cut risked a free fall in the exchange rate that could spook consumers. The Canadian dollar is cheap enough to help exporters, and fiscal stimulus (government spending) would be more effective than trying to get households to borrow more than they already have.”

The Canadian dollar ticked up modestly on the announcement.

The loonie has fallen 17 per cent against the U.S. dollar over the past 12 months, to below 70 cents U.S., pulled down by the plunging price of crude oil, the country’s second largest export.

Crude oil has fallen 70 per cent from its peak in June 2014 to below $30 U.S. a barrel.

The bank cut its forecast for the Canadian economy by more than half a percentage point to 1.4 per cent for 2016 and 2.4 per cent in 2017, adding the outlook for demand and potential supply is “highly uncertain.”

The economy “likely stalled in the fourth quarter of 2015, pulled down by temporary softness in the U.S. economy, weaker business investment and several other temporary factors,” the bank also said. Not all the data for the final three months of the year have been reported.

The bank now expects it will take until late 2017 before the economy resumes operating at full capacity.

Since its last forecast in October, 2015, “prices for oil and other commodities have declined further and this represents a setback for the Canadian economy” the bank said in its Monetary Policy Outlook.

The bank said its growth projection does not include the potentially positive impact of the federal government’s plans to boost spending on transit, roads, social housing and other infrastructure projects this year.

The Liberal government was elected on a promise to boost spending by $60 billion over the next decade, however, the details of its plans for this year won’t be known until it releases its first annual budget, likely in late March.

The central bank’s forecast focused on early signs exports are improving in non-energy sectors, such as fish and shellfish, packaging materials and medium and heavy trucks and buses.

“I think they are seeing an uptick in some of the economic indicators and they’re heartened by that,” said Dawn Desjardins, deputy chief economist at RBC said in an interview. Outside of the energy-dependent provinces, such as Alberta, labour markets and home prices are showing solid growth, she noted.

Some private sector economists said the Bank of Canada’s forecast is still too optimistic and a rate cut is inevitable, in March or April.

Poloz appeared to be trying to “put on a relatively brave face, be a calm voice in the midst of a lot of global turbulence,” Doug Porter, chief economist at BMO Bank of Montreal, said in an interview.

“Unfortunately, we suspect that they are still a bit too optimistic on the growth outlook, given the relentless drop in commodity prices and a darkening global backdrop,” Porter added.

Heading into Wednesday’s closely-watched announcement, economic forecasters were about evenly split on whether Poloz would cut the benchmark rate to 0.25 per cent, a record low last seen after the financial crisis of 2008-09.

Canadian Manufacturers’ and Exporters, the group most likely to benefit from a lower dollar, also cautioned against a rate cut saying a volatile dollar was hampering business decisions.

Toronto Star

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