Bank of Canada’s Overnight Interest Rate Target Kept at 1.75%

April 24, 2019

As analysts expected, no change was made today in Canadian central bank interest rates following the third of eight scheduled monetary policy reviews. Officials engineered rate normalization in five 25-basis point steps between July 2017 and October 2018 but made an important change to its forward guidance at its March 6th review. As recently as January, released statements had asserted that “policy interest rates will need to rise over time into a neutral range to achieve the (2%) inflation target.” The March 6, 2019 statement instead concluded that a revised “outlook continues to warrant a policy interest rate that is below its neutral range,” and today’s latest statement “judges that an accommodative policy interest rate continues to be warranted.”

This week’s meeting of the central bank Governing Council coincided with the publication of the quarterly Monetary Policy Report with updated forecasts and several observations of interest.

  1. Global and Canadian growth in the first half of 2019 have evolved more slowly than envisioned in the previous MPR.
  2. U.S. growth is projected to average only 1.7% in both 2020 and 2021. That’s just 0.2 percentage points faster than growth assumed in the euro area in those years.
  3. Sub-1.0% Japanese growth is assumed in 2019, 2020, and 2021. Chinese growth is likely to be marginally less than 6.0% in both 2020 and 2021.
  4. Despite an assumed pick-up of Canadian growth in the current quarter, the 2019 average GDP rise this year was reduced by a half percentage point to 1.2%. Such then returns to 2.0% in 2020 and 2021.
  5. Canada is not at full capacity, and the degree of under-utilization widened from an estimated -1.0% to 0.0% in the final quarter of 2018 to current estimated range of -1.25% to -0.25%.
  6. When this so-called output gap is negative as now, inflation runs low, and in light of the additional fact that inflation is not above target, it is constructive for monetary policy to be accommodative. This is accomplished with a central bank rate target that is below the estimated neutral nominal level of 2.25-3.25%.
  7. At 1.75%, the overnight policy rate is within a half percentage point of the floor of what officials consider to be rate neutrality, i.e. neither boosting nor depressing economic growth.
  8. Total CPI inflation is currently close to the 2% target by projected to dip temporarily in the third quarter. Core inflation is is also hovering near 2%, and officials “expect inflation to remain around 2% through 2020 and 2021.”
  9. Assuming that Canadian growth picks up as projected, the negative output gap will diminish gradually during the forecast period. But that MPR enumerates many areas of uncertainty that could cause growth to deviate from the baseline either up or down.
  10. Reasons for faster future growth and a diminishing output gap include population gains, a fading drag from past housing policy changes, growth in household income, higher rates of capacity usage, strengthening global demand, and improved global financial conditions.
  11. Officials do not explicitly predict the direction or timing of the next interest rate move, but the baseline forecast is more consistent with a rise than a cut.
  12. Officials are monitoring many variables, but their main interest will be on the evolution of “household spending, oil markets, and global trade policy.” Each of these factors is being watched for confirmation or the lack thereof of the Governing Council’s belief that those current depressants on both growth and the outlook for inflation are dissipating.

Copyright 2019, Larry Greenberg. All rights reserved. No secondary distribution without express permission. 

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