CA: Bank of Canada Announcement

Wed Dec 06 09:00:00 CST 2017

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As expected, the Bank of Canada held its policy interest rate steady at 1.0 percent following back-to-back rate increases in July and September. The Bank took a markedly more cautious tone in October and since then has shown no sign of changing tack. The Bank Rate is correspondingly 1.25 percent and the deposit rate is 0.75 percent.

The October Monetary Policy Report and recent speeches have focused on a number of uncertainties that are clouding the outlook. The potential for a NAFTA break-up is the "biggest" headline. The BoC isn't assuming anything in terms of final results on this front, but they have knocked down their estimate for business investment due to the uncertainty.

The BoC said that based on the outlook for inflation and the evolution of the risks and uncertainties identified in October's MPR, the Governing Council judged that the current stance of monetary policy remained appropriate. While higher interest rates will likely be required over time, Governing Council will continue to be cautious, guided by incoming data in assessing the economy's sensitivity to interest rates, the evolution of economic capacity and the dynamics of both wage growth and inflation.

According to its announcement, the global economy is evolving largely as expected in the Bank's October Monetary Policy Report (MPR). In the United States, growth in the third quarter was stronger than forecast but is still expected to moderate in the months ahead. Growth has firmed in other advanced economies. It noted that oil prices have moved higher and financial conditions have eased. However, the global outlook remains subject to considerable uncertainty, notably about geopolitical developments and trade policies.

The BoC noted that Canadian data are in line with expectations, which was for growth to moderate while remaining above potential in the second half of 2017. Employment growth has been very strong and wages have shown some improvement, supporting robust consumer spending in the third quarter. Business investment continued to contribute to growth after a strong first half, and public infrastructure spending is becoming more evident in the data.

Inflation has been slightly higher than anticipated and will continue to be boosted in the short term by temporary factors, particularly gasoline prices. Measures of core inflation have edged up in recent months, reflecting the continued absorption of economic slack.

Canada's central bank, the Bank of Canada (BoC), announces its monetary policy with regard to interest rates eight times a year. The announcement conveys to the financial markets and investors what, if any, changes in policy might be. The main focus is the target set for the overnight rate. Policy is framed around keeping the annual rate of inflation as measured by the consumer price index (CPI) within a 1 percent to 3 percent range and close to the 2 percent midpoint over the longer-run. To this end, the BoC also monitors an adjusted measure of the CPI that excludes a range of volatile categories in order to get a better handle on underlying trends.

Bank of Canada determines interest rate policy at eight meetings during the year and they are an influential event for the markets. Prior to each meeting, market participants speculate about the possibility of an interest rate change. A post-meeting statement is issued after each meeting. Unlike the Federal Reserve, there are no post-meeting minutes. The Bank has an inflation target range of 1 percent to 3 percent with specific focus on the 2 percent midpoint.

Although the Bank monitors many economic indicators, as indeed all central banks do, the Bank converted its inflation barometer for operational purposes to a consumer price index measure that subtracts eight volatile components to better reflect core inflation. It also takes the foreign exchange rate for the Canadian dollar into its monetary policy decisions.

Monetary policy goals are to aid and abet solid economic growth along with rising living standards. To achieve these goals, inflation is kept low, stable, and predictable. The inflation control target is at the heart of Canadian monetary policy that the Bank and the Government have established. The level of interest rates and the exchange rate determine the monetary environment in which the Canadian economy operates.

The level of interest rates affects the economy. Higher interest rates tend to slow economic activity; lower interest rates stimulate economic activity. Either way, interest rates influence the sales environment. In the consumer sector, few homes or cars will be purchased when interest rates rise. Furthermore, interest rate costs are a significant factor for many businesses, particularly for companies with high debt loads or who have to finance high inventory levels. This interest cost has a direct impact on corporate profits. The bottom line is that higher interest rates are bearish for the financial markets, while lower interest rates are bullish.