OTTAWA – Stephen Poloz may have brought more candour to the Bank of Canada, but he is following Mark Carney’s lead in maintaining interest rates at super low levels for what is likely to be at least another year.
The central bank issued its first policy announcement and economic outlook under the new leadership on Wednesday, adjusting slightly the expected growth rates, but solidly sticking with the one per cent policy interest rate that’s been in place almost three years.
Some analysts had anticipated Poloz’s first policy announcement would be an opportunity to set a new course from his predecessor, but except for some new, expansive language, there was little sign the men see the world differently.
“As long as there is significant slack in the Canadian economy, the inflation outlook remains muted, and imbalances in the household sector continue to evolve constructively, the considerable monetary policy stimulus currently in place will remain appropriate,” Poloz told a news conference.
“Over time, as the normalization of these conditions unfolds, a gradual normalization of policy interest rates can also be expected, consistent with achieving the two per cent inflation target.”
Still, the Canadian dollar shed nearly half a cent on the statement, which offered more clarity about the pre-conditions needed for a move on interest rates.
CIBC chief economist Avery Shenfeld said he believes markets had priced in an earlier move than the central bank had intended on rate hikes, and the new, language makes clear low borrowing rates are here to stay for some time longer.
“They did decide to clarify under what conditions policy will begin to tighten, but other than rewording it, there wasn’t really anything dramatic,” he said.
“Perhaps the market seeing the clarification of the wording of when rates would rise did a bit of rethinking.”
Still, some economists saw the more precise language as ever so slightly more dovish, giving markets cover for the reaction.
In response to a media question Poloz said the so-called forward guidance is not meant as “a signal” to markets, adding the language changed because he wanted to start with a “blank page” rather than follow the wording of previous releases.
“That is the sum total of our best judgment at this stage. How markets react to it I’ve a long time ago given up trying to predict,” he said.
Poloz added, however, he believes the most likely path is that interest rates will need to “normalize” as the economy picks up steam and inflation pressures build, although like his predecessor, gave no specific date for when that will occur.
Economists said they don’t expect any hike in interest rates for the next 12 to 24 months, with David Madani of Capital Economics, holding firm that he still believes the next move will actually involve a cut.
The slowdown in borrowing by Canadian households, which the outlook cited, makes a cut more tolerable to the central bank, but the overwhelming assessment of most analysts and markets is rates are as low as they are going to get unless the economy enters a downward spiral.
Rather, the bank’s recovery path for the economy points to higher future rates.
Following a weak just completed second quarter that was sidetracked by the flood in Alberta and a short-lived June construction strike in Quebec, the bank predicts growth will rebound strongly in the third quarter, then settle down to cruising speed of 2.5-2.8 growth over the next 18 months.
By mid-2015 the economy will have returned to full capacity and inflation to the two-per-cent target, it said.
The bank estimated the two shocks in Alberta and Quebec drained about 1.3 percentage points in the April-June period, taking the growth rate to 1.0 per cent. The shocks merely delayed activity, not suspended it, however, and the bank expects the third quarter will make up for lost time with a boost of 1.8 percentage points to 3.8 growth.
Overall, the bank sees growth averaging 1.8 per cent this year — three-tenths of a point higher than previously thought — thanks to a stronger first quarter. It sees 2.7 advances in 2014 and 2015, almost identical to the previous forecast.
“While real (gross domestic product) growth in the first quarter of 2013 was stronger than expected, the bank foresees a somewhat more challenging external environment over the projection horizon than previously anticipated,” it explained.
The new forward guidance makes explicit that the next move will almost certainly be higher rates, but also that they would only happen if conditions improve.
The bank also dropped its specific reference to the “persistent strength of the Canadian dollar” as a drag for exports, instead substituting the more generic “ongoing competitive challenges.” The loonie has weakened in the past few months and is currently hovering around 96 cents US.
Still, the bank is counting on exports to eventually take the Canadian economy out of the slow lane as demand in the U.S. picks up, which it believes will also boost confidence and boost business investment.
“After picking up sharply in the first quarter, exports are projected to continue to increase at a solid pace,” the bank says. “The further recovery in U.S. business and residential investment should particularly benefit those export sectors that have lagged thus far, notably machinery and equipment and lumber products.”
As it did in April, the bank welcomes the moderation in borrowing by Canadians despite the low interest rates, noting that household credit has continued to slow to a rate below its historical average.
The bank took some notice of the recent rebound in the housing market, although it says it expects residential investment to decline further from historically high levels to a “more sustainable path.”