Canada’s Key Rate Set to Lag Fed’s for First Time Since 2007by
BoC’s Poloz focused on U.S. divergence since oil crash
Poloz says only fresh shock would prompt cutting 0.5% rate
Canada and the U.S., among the world’s biggest trade partners, are diverging when it comes to how their central banks view the recovery.
That’s reflected in the odds investors are assigning to a rate increase this month at the Bank of Canada (zero) versus the Federal Reserve (100 percent). Governor Stephen Poloz makes his decision Wednesday at 10 a.m. from Ottawa. A rate increase from the Washington-based Fed on Dec. 14 would take the U.S. past Canada for the first time since 2007.
It’s not out of the question that the Bank of Canada could even still cut rates, even with output growth and inflation rebounding. Poloz has kept the idea of decreasing his 0.5 percent benchmark rate alive because, he says, Canada is vulnerable to any fresh shock. The Fed will increase rates to a range of 0.5 percent to 0.75 percent, according to economists in a Bloomberg survey.
“The Canadian economy and U.S. economy are in very different parts of the cycle right now,” James Rossiter, a senior global strategist with Toronto-Dominion Bank and a former central bank official, said by phone from London. “The Canadian economy is still adjusting to the shock from oil prices.”
Divergence with the U.S. remains a key theme, Poloz said last week. There is little evidence Canadian manufacturers are getting their traditional boost from an American recovery and a weaker exchange rate. The prospects for exporters are further clouded by the possibility that U.S. President-elect Donald Trump will re-open the North American Free Trade Agreement, and by growing protectionism in other countries.
Canada’s gross domestic product grew at a 3.5 percent pace in the third quarter, meshing with Poloz’s October projection, but that followed a contraction in the second quarter, adding to slack the bank says will persist into 2018. The U.S. economy grew at a 3.2 percent third-quarter pace, the fastest in two years.
The jobless rate in Canada unexpectedly dropped to 6.8 percent last month as more people quit the labor force. Meanwhile the U.S. unemployment rate fell to a nine-year low of 4.6 percent.
“What the Bank of Canada is going to want to do this week is send a friendly reminder we aren’t in the same place as the U.S.,” said Royce Mendes, a CIBC Capital Markets senior economist in Toronto. “They are near full employment. The risks in this country are still skewed to the downside.”
Canada may have enough momentum for Poloz to begin tightening, economists said, but not until 2018 or beyond. Consumer price inflation quickened to 1.5 percent in October, faster than in August but still below the bank’s 2 percent target.
Poloz said last week in a Bloomberg TV Canada interview there is heightened uncertainty for Canada’s outlook after Trump’s election win, suggesting it’s too early to increase or decrease borrowing costs. He also said only another major shock would lead him to add more stimulus, something he considered at the last decision in October.
It’s still a mixed picture, with crude oil back above $50 a barrel, higher global bond yields since the U.S. election and a currency that’s weakened to about C$1.33 per U.S. dollar from parity in 2012.
“They deserve a tighter setting than ours and they clearly aren’t there,” said Mark Chandler, head of fixed-income strategy at Royal Bank of Canada’s RBC Capital Markets unit in Toronto. “The hangover from the oil price hit is obviously bigger for us.”