Monetary Obsolescence
Writing in this newspaper last summer, I commented that where the US Federal Reserve leads with its policy, the Bank of Canada will follow. In 2019, 49 central banks cut interest rates 71 times. The Bank of Canada was not one of them. The US Federal Reserve accounted for three of those instances. Interestingly, the Canadian central bank stayed put. A stable enough domestic economy buoyed by a rebounding housing market was able to withstand the geopolitical turmoil from Chinaus trade negotiations, Hong Kong protests, and even Brexit. The obvious question now is what’s in store for 2020?
Where it still seems likely the Bank of Canada may trim interest rates by the middle of 2020, they have not had to be as reactive to a global slowdown. A resilient Canadian consumer and a rebounding housing market driven by the demographic trends of major cities were supportive of the Canadian economy in the past year. That said, a noticeable slowdown into the end of 2019 with sagging retail sales and a lethargic labour market shifts the picture and will test their hand in 2020.
One question though, is whether a single or series of rate cuts will effectively make any long-term difference to the trajectory of Canadian growth?
One of the discussions being had in policymaking circles, especially in the United States and Europe, is over the limits of central bank policy. As financial market participants we’ve witnessed the adjustment of interest rates to attempt to slow inflation in economic booms by raising rates, and conversely spur economic activity in downturns by cutting interest rates. As we’ve seen policy rates drift towards zero and go negative in other parts of the world, the efficacy of these policies is being tested in low growth and low interest rate environments.
To expand further, many market commentators have discussed a needed shift from monetary to fiscal policy. Simply put, the onus will fall to elected officials to make the smart choices of investments in infrastructure, skills training, and other selective investments. As a headline example, it’s obvious why some may be skeptical of handing more power to politicians as the fiscal deficit in the United States surpasses a trillion dollars for the first time since 2012. Similarly, in Canada, from a time when a balanced budget was a matter of national pride even under previous Liberal governments, the conversation has shifted to maintaining ratios relative to the size of the economy. In both scenarios, the underlying assumption for their stability is low interest rates and economic growth.
Whether the Canadian bank cuts rates or not in July may create some short-term noise, but it should not distract from the bigger picture. That is a global trend of slowing growth and whether interest rates near zero have the same ability to spur economic activity.