Analysis:For BOC,One Mission Accomplished;Now The Timing Game: MNI

OTTAWA (MNI) – When the Bank of Canada delivered its last rate cut in July 2015, it warned the “complex adjustments” to the oil price shock would “play out over the next few years,” before specifying in October 2015 that meant “over the projection horizon,” which at that time was through the end of 2017.

The sharp drop in oil prices from mid-2014 had led the central bank to cut rates by 25 basis points in January 2015 and another 25 basis points in July 2015. Since then, the overnight rate target has been held at 0.50%.

Now, Governor Stephen Poloz estimates such rate cuts “have done their jobs” after Senior Deputy Governor Carolyn Wilkins said Monday that “as growth continues and, ideally, broadens further”, the central bank “will be assessing whether all of the considerable monetary policy stimulus presently in place is still required.”

So with the bank’s 2015 rate cuts having accomplished their goal and growth gathering momentum and broadening, the issue has turned to the timing of the next rate hike.

The next policy announcements in 2017 are planned for July 12, September 6, October 25, and December 6.

With business investment picking up, a central condition for a sustainable growth, Poloz now sees the growth composition broadening, and is overall encouraged by Canada’s economic momentum.

Such momentum is also positive from the financial stability standpoint at it helps reduce the financial system’s vulnerability, as do the recent macro prudential measures adopted at the federal and provincial levels to address housing imbalances.

That means the system should be better placed to absorb progressive rate hikes.

In fact, Statistics Canada reported Wednesday that the credit market debt-to-disposable income ratio edged down to 166.9% in the first quarter 2017 from 167.2% the previous quarter, marking the first decrease in a year, as income rose faster than debt.

One key pillar of the BOC’s recovery scenario is stubbornly disappointing: exports and its competitiveness challenges.

Notwithstanding an “impressive” first quarter annualized GDP growth of 3.7%, “if there was one disappointment,” Wilkins said “it was exports.” She added the BOC has been “working hard to understand the forces behind the data.”

But Wilkins indicated in her speech this week that as long as excess capacity is being absorbed at the aggregate level, that would be enough to tighten policy to meet the 2.0% inflation target.

Besides, from a sector standpoint, 70% of industries have been expanding, according to the BOC. This rate has not been observed since the oil price shock, Wilkins said. “That is the kind of diversity that helps support strong and sustained overall growth.”

So now that the BOC is more confident about business investment, which Poloz said should increase as companies reach full capacity, and that growth is spreading across sectors and regions, export weakness alone should not hold back the BOC from embarking on a normalization path should other components continue on an improving trend.

And even if U.S. policies, notably trade – with the renegotiation of NAFTA about to start – and taxes, “will likely remain an important uncertainty in our projection” accompanying the July 12 policy statement, Wilkins said “life goes on.”

“Decisions must be made in the meantime,” she said.

Should economic data continue to surprise on the upside, October would not be impossible. This would coincide with the two-year timeframe provided in October 2015.

October will also be the last time this year that the Monetary Policy Report is published and that a policy announcement is followed by a press conference, as the December 6 announcement will just be a statement.

Many analysts continue to expect the BOC to hold rates through the end of 2017, and start hiking in early 2018. AGF Investments Fixed Income Portfolio Manager Jean Charbonneau told MNI he is also expecting the BOC to remain on hold in the short term “even if Wilkins was a bit hawkish” in her speech Monday.

Still, some are changing their call, such as Desjardins Senior Economist Jimmy Jean who now expects a rate hike in October instead of April 2018.

For CIBC analyst Royce Mendes, Wilkins’ comments “cement our belief that the market had been underpricing the chances of policy tightening early in 2018 or even before that.”

After months of “looking though” data and highlighting the downside risks to the inflation outlook, the central bank has been shifting its tone since the beginning of this year.

A rate cut that was still on the table last January was taken off the table in April. In May, the statement showed a stronger acknowledgement of economic progress while the excess capacity was no longer qualified as “material” and instead was just “ongoing.”

And from “the current stance of monetary policy is still appropriate” in April, the BOC’s statement evolved into “the current degree of monetary stimulus is appropriate at present.”

In the process, the BOC also dropped the divergence theme vis-a-vis the U.S. in the May statement, after having stressed in April that “the U.S. is close to full employment, unlike many other advanced economies, including Canada.”

On Wednesday, the Federal Reserve raised rates by 25 basis points as widely expected, bringing the target range to 1%-1.25% in a third hike in seven months. The central bank also provided some details on the normalization of its balance sheet.

For Fitch, the Fed is entering “a new phase of adjustment” towards ending “exceptional monetary support.”

In Canada, the BOC tightening process will be confined to rate hikes. The latter are unlikely to be imminent, however, as Wilkins reminded Monday that “slack in the economy is still translating into inflation that is below our target” while other indicators also point to “ongoing excess capacity.”

While this makes a hike in July unlikely, the BOC is clearly setting the stage for tightening sooner than later.

The last time the BOC increased its overnight rate target was in September 2010, when it was raised to 1% from 0.75%.

–MNI Ottawa Bureau; +1 613 869-0916; email:

By Yali N’Diaye

WEDNESDAY, JUNE 14, 2017 – 15:56

Source: MNI

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