Bank of Canada holds rates, sees quicker recovery
Holds benchmark rate at 0.25%
Paul Vieira, Financial Post
Thursday, September 10, 2009
OTTAWA -- The Bank of Canada indicated Thursday that it has become more confident about the economic recovery in this country and abroad, and added that growth in Canada in the second half of this year could exceed previous expectations.
However, the central bank warned "persistent strength" in the Canadian dollar remained a risk to growth, and it retained "considerable flexibility" through monetary policy to deal with a high-flying currency if necessary.
The upwardly revised outlook was delivered in the Bank of Canada's latest interest-rate statement, in which it, as widely expected, left its benchmark rate unchanged at 0.25% and said the rate is expected to remain at that level until June 2010, pending the outlook on inflation.
In its last statement in July, the central bank said a number of factors, from aggressive monetary and fiscal policies to improved financial conditions, were spurring an uptick in domestic demand, but added that a recovery was "nascent."
The central bank appeared more bullish about prospects in Thursday's statement.
"Recent indicators point to the start of a recovery in major economies, supported by aggressive policy stimulus and the stabilization of global financial markets," the one-page statement said.
This is also the case in Canada, the central bank said, adding things are unfolding at a faster pace than originally envisaged in its July economic outlook.
"Stimulative monetary and fiscal policies, improved financial conditions, firmer commodity prices, and a rebound in business and consumer confidence are supporting domestic demand growth in Canada," the statement said. "Combined with recent information on inventory adjustments and automotive production, this suggests GDP growth in the second half of 2009 could be stronger than the bank projected in July."
In the July outlook, the central bank, led by governor Mark Carney, said economic growth would return in the third quarter, marking an end to a short, but deep, recession. Growth of 1.3% was expected in the third quarter, followed by an expansion of 3% in the final three months of the year – for average growth of 2.15% in the second half.
Recent data indicate the makings of a turnaround, such as: growth of 0.1% in June, the first month of positive output since July 2008; the addition of 27,100 jobs in August; and a 1.8% quarter-over-quarter gain for the April-June period in personal expenditures.
"The bank appears ready to juice its own forecast of the Canadian and global economy for this year and possibly next year," said Andrew Pyle, wealth advisor and markets commentator with ScotiaMcLeod. "However, it still sees inflation risks tilted to the downside and maintained its commitment to leaving the overnight rate unchanged until the middle of next year. I wonder when that commitment starts to waver?"
The central bank's new take on the recovery stands in stark contrast to an outlook produced last week by the Organization for Economic Co-operation and Development, which said the Canadian economy would be the ugly duckling among major industrialized countries – by posting negative growth this quarter and only meagre growth in the fourth.
Despite stronger growth signs, exports have been a significant drag on the economy, leading to Canada recording contractions of 6.1% and 3.4% in the previous two quarters. And Thursday morning, Statistics Canada reported that the trade deficit in July grew to $1.43 billion after a $37-million shortfall in the previous month, as imports of energy products and machinery rose faster than exports.
The Canadian dollar, which closed Wednesday at US92.5¢, has gained considerable ground this year and could pose a threat to export-oriented companies. Most of the recent gains are due to a bigger appetite among investors for risk and an overall weakening of the U.S. currency.
The Bank of Canada said the "persistent strength" in the currency "remains a risk to growth and to the return of inflation to target."
The inflation target is 2%, and the central bank expects inflation to reach that level in the second quarter of 2011 due to an improving economy and its record-low policy rate. But a stronger dollar would mean cheaper imports, and that could keep a lid on inflation.
If needed, the central bank said it had "considerable flexibility" through monetary policy to address a robust currency, citing the potential use of so-called quantitative easing as outlined in its monetary policy update in April. This repeats warnings the central bank issued last month.
Nevertheless, analysts remain skeptical about whether the central bank would ever pursue currency intervention, particularly through quantitative easing, which involves the central bank flooding financial markets with cash through the acquisition of securities.
"If the Bank of Canada were to embark on a quantitative easing path, the entire landscape would have to significantly deteriorate," Charmaine Buskas, senior economics strategist for TD Securities, said in a note to clients this week.
Her firm expects the Canadian dollar to trade at par with the U.S. currency before the end of 2009.