Can interest rates get lower? Maybe
Central bank drops caution to consumers, suggesting a cut could be possible
OTTAWA — The Bank of Canada has pointedly dropped its warning about the potential for higher interest rates, triggering a sell-off in Canadian dollars that pushed the loonie almost one cent lower Wednesday and raised speculation that rates could actually fall further.
In a more predictable move, the bank also lowered the anticipated growth path for the economy, shaving the projected pace of expansion for this year as well as in 2014 and 2015.
The central bank, by jettisoning the now familiar tightening bias that it has used since April 2012 to caution consumers about overborrowing, suggests that it is just as likely to cut the oneper-cent overnight rate as to raise it in future.
And at a news conference following the release of the bank’s monetary policy report and rate announcement, bank governor Stephen Poloz made no effort to dissuade markets from that assumption.
“The statement is making it clear we have balanced the risks,” Poloz said. “If we were to receive more data flow that was more negative for that inflation outlook, then we would need to rethink that balance.”
However, most analysts doubt the bank will cut the overnight rate below its already historically low setting — where it’s been for more than three years — unless conditions deteriorate materially.
But David Madani, of Capital Economics, among the most dovish of private-sector economists, says the bank’s new tune “supports our view that if there is any change in monetary policy over the near term, it would be to provide more policy support, not less.”
At the very least, the bank is sending a strong signal that it is prepared to stay low for much longer, likely into 2015.
And the bank is suggesting it is prepared to risk reigniting the housing market and the increased borrowing that might entail if that is what it takes to light a fire under the economy, particularly the critical export sector through dollar-deflating policies.
“The Canadian economy has struggled, struggled with a growth rate that is below two per cent, so I think the bank is prepared to throw down the gauntlet to support growth and exports,” said Bank of Montreal senior economist Michael Gregory.
TD Bank chief economist Craig Alexander says he still believes the governor’s next move is a hike, but says that at the very least he has put some doubt into markets.
“Personally, I think the balance of risk is for the next move to be up, but I also think
“I think the bank is prepared to throw down the gauntlet to support growth and exports.”
MICHAEL GREGORY, ECONOMIST
the bank was right to drop the forward guidance,” he said, adding that persistent slack in the economy and the low inflation outlook make the threat of higher rates not credible.
The shift in tone is already altering some thinking about the path of interest rates.
The Bank of Montreal sent out a note Wednesday that it has changed its predictions for interest-rate increases in both Canada and the United States. It also pushed back its prediction for when the U.S. will start phasing out its quantitative-easing program, known as tapering.
That could lead to higher bond yields and the shaving of a few decimal points off five-year mortgages, although the more likely outcome is that the already-low interest-rate environment will stay around longer.
Still, Gregory said the government will need to keep a close eye on the housing market for signs of overheating. If that happens, federal Finance Minister Jim Flaherty may need to tighten mortgage rules once more, he said.
The key explanation given by the central bank for its switch is continued weakness in the country’s export sector, which has restrained business spending on machinery and equipment, and persistent slack in the economy, which has kept inflation below target.
The bank had expected exports to show a bounce in the third quarter, but that did not occur due to the fiscal turbulence in the U.S. and continued weak global demand, it said.
Non-commodity exports have been basically flat for some time, noted Tiff Macklem, the bank’s second in command.
What’s more, the bank is not certain why exports have underperformed as much as they have, citing potential competitive pressures.