The Bank of Canada (BoC) Held Canada’s Central Interest Rate at 1.75%. Here’s Why …
Here’s some general data the BoC considers when deciding on the direction of Canada’s central interest rate and some forward looking opinions on near to medium term rate movements.
1. Inflation
- The Bank of Canada’s primary mandate is to keep inflation between the 1-3% target range, with the National economy operating at capacity. Inflation is found by grouping the cost of items together in a basket of goods. Inflation measures the change in price, as a percentage, a basket of goods. This is referred by the Consumer Price Index (CPI).
- Consumer Price Index (CPI) is down from it’s Summer peak of 3% to 1.70%. This is primarily due to lower gasoline prices. Inflation is expected to hover around the 2% target in the near to medium term.
- Core measures of inflation are stable. The BoC has three other inflation guidelines (CPI Trim, CPI Median, CPI Common) that are used in making interest rate decisions. Each of these measures are at 1.9% and have been hovering at this level for months now.
- Canada’s inflation outlook is flat or slightly down with persistently lower gasoline prices. However, Canada’s lower dollar will counter and exert up pressure on inflation. Today, the BoC is expecting inflation to be a 2% by the end of 2019.
- U.S inflation is also down from the Summer 2018 peak. With food and energy prices lower, U.S inflation is within the Federal Reserve’s comfort zone. Market watchers originally anticipated two U.S rate hikes in 2019 but with the most recent Federal Reserve comments, Global and Domestic economic headwinds, they might pause for longer than initially expected.
2. Gross Domestic Product
- Gross Domestic Product (GDP) is the total value of all goods and services produced by a Nation.
- Canadian Bankers have lowered the expected 2019 GDP to 1.70% annually. This is down by 0.40% from October 2018 Monetary Policy Report (MPR).
- Down pressure on Global oil prices AND a significant discount on Canadian crude oil are the driving forces to this lower outlook. The BoC statement suggests that GDP will return to near full capacity by 2020. As this unfolds, I am sure to update on these International happenings because of the relation to Global demand related to oil consumption is very important to Albertans.
3. Consumer Spending & Housing
- 65% of Canada’s GDP is from consumer spending. The January Monetary Policy Report (MPR), from the Bank of Canada, distinguishes wage growth between oil producing Provinces with the rest of Canada. Real wage growth is 1.8% in oil producing provinces, and 2.6% in non-oil producing Provinces. With inflation fluctuating between 1.50% – 3.0%, consumer spending power remains relatively the same. The MPR does disclose that the saving rate of Canadians is also sharply lower than the historical average. This might indicate more repayment of debt is happening as interest rates have risen. Canadians are also beginning to renew their Mortgages at non-historically low interest rates, again carving out more money to be servicing debt. If you know people buying big ticket item, be sure to thank them. We need people spending money in our economy :-).
- Our central Bankers understood lower consumer spending was a threat to our economy, but planned on business investment to pick up the slack. For an extended period of time, the NAFAT renegotiation brought a fair amount of uncertainty delaying some of this investment. Albertans are experiencing many Oil and Gas companies choosing to do business in different parts of the world. The growing uncertainty of the Global economic outlook has brought back uncertainty of business investment in other parts of Canada too. This uncertainty could by lifted later this year to help the overall Canadian economy.
- The perfect storm of increasing interest rates from our Central bank, higher fixed interest rates from markets, new Mortgage qualifying rules and several local restrictions to Real Estate markets have dampened the National housing outlook. Not surprising. Real Estate is a large part of Canada’s GDP responsible for jobs, natural resource consumption and spending. Arguments are being made that “the froth” is being taken out of some markets (Toronto & Vancouver) and the adjustment process takes time and results in a bit of pain. The Bank of Canada disclosed it is possible they underestimated the down side risk of implementing interest rate hikes at the same time as Federally regulated Mortgage rule changes. Shocking.
4. Global Economies Are At Issue:
- The U.S and China’s trade war is weighing more and more on their respective economies. This trade war is also weighing on Global economic sentiment. Additionally, the execution of BREXIT is also creating more uncertainty in Global markets.
- U.S Government fiscal stimulus (corporate tax cuts and infrastructure spending) helped boost their economy which is now starting to fade. U.S Federal Reserve has been tightening Monetary policy with higher interest rates and implementing Quantitative Tightening (QT: selling Government Bonds) that are taking liquidity out of the market. QT is a new “thing” with many economists unsure of exactly how this process will impact markets. Very interesting times!!
- Global markets are repricing assets in light of Global growth uncertainty. The TSX/S&P 500 Composite, S&P 500 and other financial markets are all down year-over-year. Many other countries Governments have also begun tightening their Monetary Policy, which might conclude for the time being (just like Canada’s pause) . All of this has contributed to lower long-term Bond yield curves that are now flat.
- Global oil prices have dropped significantly from their Summer 2018 highs (West Texas Intermediate (WTI)). For the above reasons, Global oil demand is facing a challenge and the U.S is a net exporter of oil adding to supply. The U.S’s multi-component Shale oil fracking technology has helped access new reserves, previously unattainable, that is helping increase U.S oil supply. Western Canadian Select (WCS)) oil faced a price differential that was uncharacteristically deep because of a bottleneck in transportation and U.S refineries seasonally shutting down for maintenance. Oil prices are recovering from their recent lows as OPEC navigates decreasing production talks.
Conclusion:
There are positives to take from the Bank of Canada’s Monetary Policy Report. Wage growth, outside of the oil producing Provinces (AB, SK, NL) is 2.6%. Wage growth within the oil producing Provinces is only 1.8%. With inflation coming in around 2% annually, other Canadians are experiencing real wage growth y-o-y.
The Bank is forecasting growth from stabilizing foreign demand, robust immigration inflows and low unemployment (40 year low). The Canadian economy, outside of oil producing Provinces, is expected to have strong export and investment growth.
The Bottom Line is we live in Calgary Alberta; a oil producing Province. Our economy is adjusting to many economic factors that are headwinds to prosperous economic growth.
One silver lining to these conditions might be a longer term pause to variable Mortgage interest rates than originally thought. Another is potentially lower fixed Mortgage interest rates to reduce any future payment shock from those clients renewing out of a Mortgage interest rate that starts with a 2.
Thank you for reading and talk soon,
Chad Moore