The Bank of Canada announced on October 23rd, 2012 it is keeping kept its key policy rate at 1 per cent, where it has been held steady for two years. This marks the longest period since the 1950s that rates have been left unchanged.
The announcement was similar to those in September and July, including the bottom line that the Bank would still like its next move to be a rate hike. However, the Bank’s tone surrounding the timing and degree of such a move was softened, saying some “modest withdrawal” of current monetary stimulus – read small increase in interest rates– will “likely” be required “over time”.
Much of the Bank’s latest guidance about factors influencing its decision about where interest rates are headed next (up, down, or stable) was a repeat of messages contained in previous announcements this year. However, something new appeared this time around when the Bank indicated it was concerned about how low interest rates were enticing households to take on more debt, and that it would bear “evolution of imbalances in the household sector” in mind as to when it will raise interest rates.
Although the Bank still expects Canada’s economic outlook to brighten, it reiterated a number of external downside risks that may force it to again lower its expectations. These risks include the fact that “Europe is in recession and recent indicators point to a continued contraction”. The Bank also noted that growth has slowed by more than expected in China and other major emerging economies, but added that there are now signs of stabilization around current growth rates. It also reiterated that economic growth in the United States was continuing at a “gradual pace”.
While that is consistent with inflation and interest rates staying low, the Bank reiterated that prices for oil and many other commodities that Canada exports have recently increased. That means prices at the gas pump have prevented consumer price inflation from retreating further but leaves less money in household budgets for discretionary spending, which in turn will keep economic growth and inflation in check.
Regarding the broader economic picture, the Bank stated “Global financial conditions have improved, supported by aggressive policy actions of major central banks, but sentiment remains fragile.”
The Bank still expects consumer spending and business investment to be the primary drivers of economic growth in Canada next year, spurred on by the continuation of low interest rates. The Bank projects that the economy will grow by 2.2 per cent in 2012, 2.3 per cent in 2013 and 2.4 per cent in 2014. Recent revisions to National Accounts data make it more difficult to compare this to previous forecasts, but the bottom line is that Bank expects modest economic growth in the years ahead, with limited prospects for its acceleration.
Household debt is still growing albeit at a snail’s pace. The Bank expects “the household debt burden is expected to rise further before stabilizing by the end of the projection horizon (2014),” with “housing activity…expected to decline from historically high levels”.
The Bank also recognized that inflation has been softer than it had previously expected, which also suggests that interest rates will rise later than was previously anticipated by financial markets. It said that “core inflation has been lower than expected in recent months, reflecting somewhat softer prices across a wide range of goods and services,” it is expected to increase gradually over coming quarters, reaching 2 per cent by the middle of 2013.
It added that total CPI inflation had fallen “noticeably” below the 2 per cent target, but expected to return to the 2 per cent target by the end of 2013, which is a little later than previously thought.
The bottom line is that economic growth is expected to remain modest but positive, consistent with low inflation and low interest rates. The Bank of Canada made clear its fondest wish is still for an opportunity to hike rates at some point, but has been forced to soften its stance given the weakened prevailing economic outlook.
When the Bank made its policy rate announcement on October 23rd 2012, the advertised five-year lending rate stood at 5.24 per cent. This is where it has stood unchanged since the beginning of June 2012.
The Bank will make its next scheduled rate announcement on December 4th, 2012.