03 March 2008
How low will Bank of Canada rate go? Half-point cut expected on U.S. slowdown
It’s no longer a question of to cut or not to cut for the Bank of Canada, but of how low will it go. Canadians will find out Tuesday. With analysts agreeing, and Mark Carney, the new governor of the central bank, having indicated that rates are coming down, the only question is whether it will cut the target for its trendsetting rate by half a percentage point to 3.5 per cent or by a quarter point to 3.75 per cent.
The C.D. Howe Institute’s monetary policy council has suggested the central bank cut rates by a quarter point, but some other analysts are betting on a half-point cut.
“There is little doubt that the Bank of Canada will ease on Tuesday, but there is a lot of head-scratching over the size of the move,” noted BMO Capital Markets economist Sal Guatieri, adding that weighing in favour of a half-point cut is that the two quarter-point reductions so far by the bank “seem puny in the face of a rapidly sagging U.S. economy.”
“Canadian-dollar strength has led to . . . a moderation in inflation . . . providing the Bank of Canada with room to further reduce the overnight rate,” Scotia Capital economist Karen Cordes noted, predicting a half-point cut. “At the same time, the U.S. economy has begun to slow, credit conditions have tightened and the strong Canadian dollar has reduced competitiveness, increasing the downside risks to growth.”
And the central bank will likely have more evidence in hand of that risk when it cuts rates on Tuesday, which follows today’s release by Statistics Canada of the year-end report card on the economy’s performance.
“Economic activity in December likely turned negative for the first time since September 2006,” Cordes said, projecting growth in the final quarter of the year also likely slowed to an annual pace of just 1.2 per cent.
“Weakness in the trade sector probably accounted for the majority of the losses, with the help of continued deterioration in the manufacturing sector and an unexpected dip in housing starts on the back of adverse winter weather,” she said. “Trade will likely post a greater drag on the economy than in previous quarters as the strong Canadian dollar continues to erode competitiveness.”
That weakness is also expected to start showing up in the monthly employment reports.
While job growth has been surprisingly resilient, growing by 2.3 per cent last year, which was the strongest growth in three years, employment gains will not be as strong this year, Cordes said.
“Tight credit conditions, a stronger Canadian dollar and softer housing activity will reduce consumer spending and limit business activity,” she said, estimating that employment rose by just 5,000 in February, a tiny fraction of the 46,000 job surge in January.
“As a result, the unemployment rate will begin to move up,” she said, predicting an increase to 5.9 per cent from 5.8.
While concerns about the economic slowdown that’s leading to the interest-rate relief here is global, CIBC World Markets noted the Bank of Canada is the only one of the four central banks reviewing their benchmark rates this week that’s expected to cut rates.
In fact, Australia’s central bank is expected to raise rates there by a quarter point, bringing its trendsetting rate to a relatively high 7.25 per cent, while the Bank of England and European Central Bank are expected to keep their rates steady at 5.25 per cent in Britain and four per cent in the European Union, CIBC said in a report.
“While not every central bank is expected to make a policy change, resulting comments should be insightful for future direction of both interest rates and currencies,” said CIBC, which is expecting a half-point cut in rates here.