The year of prudence: Bank of Canada ends 2019 with no interest rate move

For the Bank of Canada, 2019 was a year of exercising caution. So it came as little surprise to market watchers when at its final announcement of the year on Wednesday morning, the bank again maintained the overnight interest rate at 1.75%, citing “nascent evidence that the global economy is stabilizing.”

In a shorter than usual press release, the bank called out housing activity as a “source of strength” amid a tested economy, and said that business investment outperformed its expectations.

This is the ninth consecutive time in a year that the bank has kept the overnight rate locked, and it was a move widely expected by economists. The decision again marks the bank deviating from the norm, “with the highest policy interest rate among advanced economies,” Bloomberg News reported on Tuesday.

“The Bank’s October projection for global economic growth appears to be intact,” the release states. “... with growth still expected to edge higher over the next couple of years.”

Trade war remains ‘biggest source of risk’

Persistent trade tensions between the U.S. and China have caused the Canadian economy to perform weaker than expected for the first time this year. And they don’t appear to be going away any time soon.

After the bank’s October 30 announcement, Poloz said that “Canada was one of the first countries to feel the effects of trade policy uncertainty, since NAFTA was the first target of the Trump administration. Indeed, this uncertainty has been weighing on investment in Canada for the past three years.” The Bank was expecting investments and exports to contract again, however, before expanding next year.

Today, the Bank reiterated its concerns about the ongoing trade conflict.

“Indeed, ongoing trade conflicts and related uncertainty are still weighing on global economic activity, and remain the biggest source of risk to the outlook.”

Exports performed just how the bank thought they would, and business investment outpaced the bank’s expectations.

“As expected, exports contracted, driven by non-energy commodities,” the bank said. “However, investment spending unexpectedly showed strong growth, notably in transportation equipment and engineering projects. The Bank will be assessing the extent to which this points to renewed momentum in investment.”

Job losses, wage gains

At its last announcement, the bank sounded wary of the global slowdown, and maintained that Canada’s economy would be “increasingly tested” against this backdrop.

Employment was looking good leading up to October, when Canada gained 54,000 new jobs in September. But Canada unexpectedly lost 1,800 net jobs in October, when economists expected a gain of 15,000. Still, the unemployment rate is holding at 5.5%.

Income growth is looking promising, with average hourly earnings up 4.4% in October compared to the same month a year before. This could have been a factor in the bank’s decision to stay put.

“Growth in Canada slowed in the third quarter of 2019 to 1.3 percent, as expected,” the bank said. “Consumer spending expanded moderately, underpinned by stronger wage growth.”

Housing a ‘source of strength’

In October, the bank said it would “pay close attention to the sources of resilience in the Canadian economy — notably consumer spending and housing activity — as well as to fiscal policy developments.”

Canadians continue to be plagued by high levels of household debt, with 40% saying they don’t ever see themselves escaping it. But on the brighter side, the Canada Mortgage and Housing Corporation recently said that Canadian home sales and prices are positioned for a recovery next year. (In Toronto specifically, the housing market risk changed to moderate from high for the first time since 2015.)

The bank certainly sees this as a positive.

“Housing investment was also a source of strength, supported by population growth and low mortgage rates,” the bank said today, adding that it “continues to monitor the evolution of financial vulnerabilities related to the household sector.”

GDP grew at an annual rate of 1.3% in the third quarter, according to Statistics Canada, which the bank says was expected. And core inflation measures remains on target, around 2%. This is “consistent with an economy operating near capacity,” the bank said. 

However, it did add that inflation will “increase temporarily in the coming months due to year-over-year movements in gasoline prices.” The bank expects inflation to hover close to 2% for the next two years.

Have we dodged a cut?

But with forecasts for the bank’s next move “on a knife’s edge,” as the Financial Post put it last week, many economists don’t think a rate cut is out of the question.

In fact, CIBC is calling for a January rate cut, according to a November economic note. That’s a revision from earlier this year, when it was predicting a cut wouldn’t come until the second quarter of 2020. And Scotiabank also recently adjusted its forecast, pushing back calls for a cut from today to the beginning of 2020 instead. 

The change in forecast may have been sparked by a remark Poloz made on Nov. 22 at the Ontario Securities Commission in Toronto. “We think we’ve got monetary conditions about right given the situation,” Poloz said.

Just a few days earlier, however, during a speech in Montreal on Nov. 19, senior deputy governor Carolyn Wilkins made a remark that was slightly more dovish (and even caused the loonie to do a bit of jostling): “The Bank of Canada and other authorities must assess the risks and have the right safeguards in place. Ideally, you want to put the winter tires on before the snow falls. It not only protects you, but also everyone else who’s on the road.”

Could Wilkins have inadvertently been hinting at a cut?

“The takeaway from this week’s events is that the BoC is prepared to cut rates if necessary, but will need something to precipitate a move,” Benjamin Reitzes, BMO’s Canadian Rates and Macro Strategist wrote in a report last week. That could be another rate cut by the Federal Reserve, slowing inflation, and weak GDP growth. If any of these things materialize, Reitzes wrote, “expect policymakers to spring into action.”

Still, a Reuters poll taken last week of more than 30 economists revealed that a small majority expect the bank to hold rates throughout 2020.

“Based on developments since October, Governing Council judges it appropriate to maintain the current level of the overnight rate target,” the bank said.

“Future interest rate decisions will be guided by the Bank’s continuing assessment of the adverse impact of trade conflicts against the sources of resilience in the Canadian economy – notably consumer spending and housing activity. Fiscal policy developments will also figure into the Bank’s updated outlook in January.”

The Bank of Canada makes eight announcements on the overnight interest rate every year. Its next announcement is scheduled for January 22, and will be accompanied by the Monetary Policy Report.