No change in rates, but maybe a change in tune

OTTAWA There is zero chance of Canadians getting a bigger break on borrowing costs from Wednesday’s Bank of Canada interest rate announcement, but that doesn’t mean governor Mark Carney doesn’t have an opportunity to adjust policy to impact the economy, if solely on the margins.

Carney’s penultimate policy announcement before stepping down in June will on the surface be more of the same.

For the umpteenth time — even officials have difficulty keeping count — the central bank is expected to keep its trendsetting rate at 1 per cent where it’s been since September 2010.

That has kept borrowing costs at historically low levels in Canada and contributed to one of the hottest housing markets in the industrialized world in the years following the recession.

But the overnight rate is not the only way the bank can impact the real world. The other is what is referred to as the policy bias, a forward guidance that tells markets and borrowers which way rates are likely to move once they start.

About a year ago, Carney and the bank’s policy-setting panel seems pretty certain interest rates were ready to start edging north given that the prospects for the economy were fairly rosy, inflation pressures were building, and borrowers were lining up. Now not so much.

In the last few months, Carney has moderated the language around the bias, while still keeping the arrow pointing up. Will he take the final step Wednesday?

“I think it’s a very hard call as to what the Bank of Canada is going to do with the forward looking language,” says TD Bank chief economist Craig Alexander, “since it’s very clear the economy has delivered a softer performance than the bank was anticipating. So if they wanted to drop the bias, they have an environment that would allow them to do so.”

The C.D. Howe Institute’s informal policy council, of which Alexander is a member, said last week for the first time that the time had come for the bank to adopt a neutral stance, which would tell markets that the next move might as well be a cut as a hike.

Moving to neutral bias might have a dampening effect on the Canadian dollar and help take the Canadian dollar down a peg, thereby giving exporters a much-needed boost, even if it is a minor one.

The problem with doing so is that it risks even lower interest rates that may convince Canadian households that having a record high rate of debt — 165 per cent of income — is no reason not to mortgage the future on a new or bigger home.

Finance Minister Jim Flaherty has gone to extraordinary lengths to avoid that outcome. Last summer, he tightened mortgage rules to discourage marginal buyers, and last month he or his office twice intervened to dissuade banks from dropping their five-year fixed mortgage rates further.

The minister’s mortgage actions have worked so far, but Alexander points out the most recent data on house sales and prices suggest the effect might have been temporary.

Changing the bias may be justified, agrees Bank of Montreal chief economist Doug Porter, but he gives it at best a 30 per cent chance Carney will do it.

Porter says the bank will need to acknowledge that it has been wrong about the economy and downgrade its forecast for a two-per-cent advance this year closer to the private sector consensus, which is 1.6. But after softening the language twice in the last few meetings, it need not act further.

“It comes down to a trade-off between how you affect the dollar and how you affect borrower behaviour,” he said.