By Theophilos Argitis
At a decision Wednesday, policy makers reiterated the current policy rate — at 1.75% — remains “appropriate.” They painted a picture of an improving Canadian economy in the near term, but one whose path back to full capacity is being slowed by escalating trade conflict.
The net effect is a broadly neutral stance that suggests the Ottawa-based central bank remains on hold indefinitely, not in any rush to move interest rates in either direction.
“Recent data show the Canadian economy is returning to potential growth. However, the outlook is clouded by persistent trade tensions,” the central bank said in its statement, reiterating it will continue to monitor incoming data. “Taken together, the degree of accommodation being provided by the current policy rate remains appropriate.”
A strong run of economic data is affording the Bank of Canada opportunity to resist any dovish turn in global monetary policy. Market pricing suggests investors aren’t expecting Governor Stephen Poloz to match cuts by the Federal Reserve over the next year. As a result, Canada may end up with the highest policy rate among advanced economies within the next 12 months.
After Canada’s expansion stalled at the end of last year, growth is returning to potential, with much of the newly created economic slack largely centered in energy producing regions, policy makers said. The immediate rebound has been stronger than expected, with the Bank of Canada revising up its growth projections for the second quarter to an annualized 2.3%.
At the same time, the central bank said some of the recent pick-up will be temporary, and growth will decelerate in the third quarter. The net effect is that growth for all of 2019 will remain sluggish at 1.3% — little changed from the 1.2% expected in April when the Bank of Canada last released economic forecasts.
Global trade tensions, meanwhile, have escalated, particularly between the U.S. and China, forcing policy makers to mark down their projections for global growth and lower estimates for business investment and exports. These include new Chinese trade restrictions on Canadian agricultural goods, the bank said.
Broader global trade tensions are driving down commodity prices and are outweighing some positive developments, such as the removal of U.S. tariffs on Canadian steel and aluminum. The impact of ongoing tensions is the first issue highlighted in the statement, and the Bank of Canada acknowledged that other central banks seem ready to provide additional stimulus in the face of slowing global growth.
“Evidence has been accumulating that ongoing trade tensions are having a material effect on the global economic outlook,” the Bank of Canada said. “Trade conflicts between the U.S. and China, in particular, are curbing manufacturing activity and business investment and pushing down commodity prices.”
Because of these trade tensions, the Canadian economy will grow slightly less than expected next year — 1.9% versus an initial estimate of 2.1%. Exports account for all of the downward revision.
- Policy makers will pay “particular” attention to developments in energy sector and the impact of trade conflicts. Household spending is no longer cited as an area that needs particular attention.
- The bank’s forecast for the output gap was unchanged in the second quarter, at between -1.25% and -0.25%.
- Inflation is expected to dip in 2019 because of temporary factors, but will return sustainably to 2% by mid-2020.
- Expected economic slack over the projected horizon is seen as a source of modest downward pressure on inflation.
- Growth in the third quarter is expected to slow to an annualized 1.5%, given some of the strength in the second quarter appears to be due to temporary factors.
- The Bank of Canada marked up projections for consumer spending in 2019. Consumption is being supported by a healthy labor market, it said.
- Canada’s housing market is stabilizing, although significant adjustments are being made in some markets.
- Exports are expected to grow “moderately” over the projected horizon on expanding foreign demand.