OTTAWA — The Bank of Canada announced Tuesday it is keeping interest rates at ultra-low levels for a while longer, warning that the economy is facing a series of shocks from around the world likely to temper growth and keep inflation in check.
The central bank’s decision to not alter the benchmark overnight rate — which helps determine short-term interest rates in the private banking sector — at one per cent was not a surprise. Many economists expect it will be there for another year or so.
The news in the one-page statement issued by the bank alongside its early morning policy announcement is that bank governor Mark Carney thinks the risks from around an already turbulent world may be intensifying.
The bank said it expects the recession in Europe “to be more pronounced,” a downgrade from October when it said the continent would go through a brief slump, and added that “additional measures will be required to contain the European crisis.”
Analysts said the Bank of Canada looks stuck in place at one per cent for a very long time, perhaps well into 2013.
Markets might in fact have been looking for hints Carney was thinking about a rate cut — when that wasn’t forthcoming, investors pushed the loonie 0.4 cents higher to 98.75 cents US.
“They gave no hints whatsoever that they were possibly thinking of a rate hike or cut in the months ahead... they are just not going there,” said Doug Porter, deputy chief economist with BMO Capital Markets.
Porter said the bank would need to see a resolution to the European crisis and sustained stronger growth in the U.S. to entertain raising borrowing costs for Canadians.
To cut interest rates would likely require Canada falling back into recession, he added.
The bank views its policy setting as already offering the economy “considerable monetary stimulus” by keeping the cost of borrowing for businesses and households low, thus encouraging investments and spending.
But Carney has often signalled his concern that low rates for a long time is encouraging irresponsible borrowing behaviour among Canadians, particularly overspending in the housing market.
Analysts said the bank appears fixated on European events and their potential to upset the global and Canadian economic cart.
“Despite his credentials as a fine central banker, he is glued to the headlines just like the rest of us to see what possibly comes out of Europe this weekend and having low expectations is the right way to go,” said Scotiabank economist Derek Holt.
European policy-makers are scheduled to meet later this week in yet another key summit on the unravelling situation.
Last week, six major central banks, including Canada’s, launched a co-ordinated pre-emptive bid to inject U.S.-dollar liquidity into troubled European banks that stilled markets temporarily, but was seen largely as a Band-Aid solution. Still, this week Standard & Poor’s credit agency put the eurozone, including Germany, on a “negative” watch for a downgrade from the cherished triple-A rating.
Carney made it clear he believes European leaders need to take much bolder action to stanch the bleeding.
“Conditions in global financial markets have deteriorated as the sovereign debt crisis in Europe has deepened,” he and his policy council say in the statement.
“Additional measures will be required... The recession in Europe is now expected to be more pronounced than the bank had anticipated in October, as a result of increased deleveraging and tighter financial conditions, as well as necessary fiscal austerity and structural reforms.” The Standard & Poor’s credit agency has put the eurozone, including Germany, on a “negative” watch for a downgrade from the cherished triple-A rating.
Ironically, the atmosphere of uncertainty has yet to be translated into souring economic activity in North America.
The bank statement makes clear that economic activity in the U.S. has been surprisingly robust to date, as has growth in Canada.
Last week, Statistics Canada reported the economy grew at a strong 3.5 per cent, and economists expect the fourth quarter to be above 1.5 per cent, not nearly as soft as the bank’s call of 0.8 per cent growth.
The trouble is all in what’s up the road, the bank says. The spillover effects of Europe and America’s own internal problems will weigh on growth going forward. As for China and emerging nations that have been the mainstays of the global economy over the past few years, all signs point to the pace of expansion “moderating.”
“The weaker external outlook is expected to dampen GDP (gross domestic product) in Canada through financial, confidence and trade channels,” the bank said.
“The economy also continues to face competitiveness challenges, including persistent strength of the Canadian dollar.... Reflecting all of these factors, the bank has decided to maintain the target for the overnight rate at one per cent.”
The bank said it is not worried about inflation at the moment. While at 2.9 per cent it is higher than the two per cent target the bank strives for, it expects weaker economic activity and moderating energy and food prices will bring overall inflation in line.
Canada’s better performance in the tail of 2011, the bank said, is due to stronger than expected household spending and continued healthy business investment. But exports have also so far defied the worsening global trends, recording solid gains in the third quarter.
The stronger second half will likely result in 2011 overall growth higher than the predicted 2.1 per cent, but the bank gave no guidance on its milder 1.9 forecast for 2012.
Not all forecasters are as pessimistic, however. The Royal Bank said Tuesday it believes Canada’s economy will actually pick up in 2012 to 2.5 per cent, assuming Europe keeps its problems from spreading.