Bank of Canada: amid the encircling gloom

In line with the unanimous market expectation, the Bank of Canada today left its target rate unchanged at 1.75 percent.  The accompanying press release was unmistakably dovish in tone, to the point where financial markets are now pricing in a small chance of a rate cut at the Bank's next Governing Council meeting in mid-April. 

Data released just last week showed that the Canadian economy slowed to a crawl in the final quarter of 2018.  Real GDP grew at an annualized rate of only 0.4 percent in the quarter.  While the Bank of Canada had been expecting some deceleration during that period, largely due to the travails of the energy sector, the actual outcome was both more severe and more broadly-based than expected.

Energy production, notably oil, was the leading source of weakness in the quarter, but the goods sector generally also performed poorly.  Moreover, there was a notable slowdown in consumer spending, business investment and exports.  The Bank now expects growth for at least the early part of 2019 to be slower than previously forecast.  The energy sector will again be under pressure: the compulsory production cuts mandated by the Alberta Government only kicked in at the start of the year.  Though these have already been partially unwound -- thanks in part to some unpredicted consequences -- they will serve to restrict output, and hence also GDP,  at least through the first calendar quarter. 

The Bank's press release notes that the global growth outlook also appears to be weakening, thanks in part to ongoing trade tensions triggered by the Trump administration.  The OECD concurs: this week it published a strikingly gloomy forecast for the global economy.  The OECD sees risks not only from trade tensions,  primarily between the US and China, but also from the chaotic Brexit process, which has potentially severe implications for both the UK and the EU.

In the circumstances it is no surprise that the Bank of Canada is set to take a wait-and-see attitude.  There are some indications that US-China trade talks may soon bear fruit, and it may yet be that a catastrophic no-deal Brexit at the end of this month can be avoided.  Even if those uncertainties abate, the Bank will want to be certain that the domestic economy is back on a more solid footing before it even thinks about resuming its tightening cycle.  At the very least this suggests no further rate hike is likely this year, though expectations for a rate cut still look unlikely to be met.