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Economists expect Bank of Canada to keep key rate low until 2017

CanadianMoney6
Tags: Economy

The latest round of policy easing in Canada is probably over but interest rates are expected to stay low for longer as the central bank tries to lift the economy out of a mild recession, a Reuters poll of economists found.

An economic slowdown brought on as falling oil prices dragged down business investment and the energy sector have prompted two 25-basis-point Bank of Canada rate cuts this year.

Although analysts see a sizeable 40-per-cent possibility the central bank will cut again at some point despite rates sitting at only 0.5 per cent, they peg the chance of a hike at 55 per cent, though it won’t come for a year and a half.

While the median forecast from 40 economists suggests no change in rates on Sept. 9, forecasters pegged the probability of another 25-basis-point cut at one-in-four, particularly after the bank’s first rate cut this year in January was unexpected.

Markets are also pricing in a small risk of more easing next week.

“The Bank of Canada will be comfortable remaining on the sidelines,” said David Tulk, chief Canada macrostrategist at TD Securities. “There is still a risk they might cut given that the outlook has weakened. But they don’t have the same urgency to respond to a weaker-than-expected performance in the economy like they did back in July,” Mr. Tulk said.

Even if the bank did cut rates again, recent experience from other central banks shows that trimming a rate already close to zero does not wield much potency as a policy tool.

Cutting rates again might also make it easier for Canada’s already heavily indebted households to borrow. The household debt-to-income ratio is near a record high, with much of that borrowing being channelled into the country’s housing market.

Many economists have warned the long-booming housing market could be in store for a correction, though. A Reuters poll last week found a majority of those surveyed predicted a slowdown in home buying if the economy continues to underperform.

The possibility the U.S. Federal Reserve may raise rates later this month for the first time in almost a decade could also stay the Bank of Canada’s hand.

“If the Fed does choose to do something in September, at least the Bank will then be in a better position to respond, as opposed to having to move ahead of the Fed when that part of the story is still unknown,” Mr. Tulk said.

From there, the Canadian central bank is expected to stand pat until the first quarter of 2017, when it is likely to raise rates, further out than the fourth quarter of 2016 hike predicted in a July poll that was taken before the previous rate cut.

It is this policy divergence that will send the Canadian dollar lower over the coming months, a separate survey of currency strategists showed earlier on Thursday.

Figures released earlier this week confirmed Canada was in a mild recession in the first half of the year, though there are signs growth perked up at the end of the second quarter, supporting the Bank of Canada’s prediction the economy will bounce back over the rest of the year.

“Growth is likely to pick up in the second half,” said Scott Brown, chief economist at Raymond James & Associates. “The Bank of Canada is likely to follow the U.S. Federal Reserve in raising rates, but with some lag.”

Mr. Brown expects rate hikes will come in the first quarter of 2016, earlier than the consensus.

But the survey found analysts were divided on whether the economy will rebound like the central bank expects, with 15 saying it would and 12 disagreeing.

Much will depend on how third-quarter figures shape up and whether oil prices pick up significantly. But, a Reuters poll of commodity analysts on Tuesday predicted only a gradual recovery in crude prices over the coming year.

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