interest-rate-push-down

During a speech this afternoon, the Bank of Canada said, for the first time, that it would consider pushing its trend-setting interest rate below zero. This would occur if the country ever suffered another major economic shock such as the financial crisis.

In prepared remarks, Governor Stephen Poloz said a negative key interest rate was among several potential unconventional monetary policy tools the BoC could apply in an unlikely crisis scenario. Others tools include quantitative easing and forward guidance.

As part of updating its monetary policy framework, the BoC is moving its effective lower bound into sub-zero territory for the first time, dropping it to -0.5% from the +0.25% mark that it set in 2009.

Read: How negative rates affect economies

The Bank has also added another unconventional and new measure to its arsenal: it would ensure economically important sectors had continued access to funding even when the credit supply was impaired.

But, Poloz stressed that even though he’s listing these measures, that should in no way be taken as a sign the BoC is about to use any of them. He also reiterated the sentiment from last week’s interest rate announcement that, as of now, the economy seems to be evolving as expected.

“Given this outlook, it may seem like an odd time to be updating our unconventional monetary policy tool kit,” Poloz said in his speech. “I certainly hope we won’t ever have to use these tools. However, in an uncertain world, a central bank has to be prepared for all eventualities.”

He also clarified that “while [the BoC] now believe[s] that interest rates can be pushed below zero, there still is a lower bound. So, we can’t be cavalier about how much more room to manoeuvre we have. Further, there’s evidence that consumers and businesses respond less to interest-rate declines when interest rates are already very low.”

Read: Let’s keep rates positive

The BoC no longer sees a pre-determined order for when its available tools should be used, writes Andrew Grantham of CIBC Economics in a release. That’s because the effectiveness of each tool “depend[s] on the situation,” according to Poloz. “He [also] hinted that he would prefer fiscal policy to play a greater role in stimulating the economy if ‘extreme circumstances’ warranted.”

What’s interesting is that “even after the disappointing employment and trade figures released late last week, Poloz still says that the economy is ‘playing out’ broadly as predicted,” says Grantham. Going forward, he adds, “We’re a little more cautious on the near-term outlook than the BoC (we’re expecting Q4 GDP to be 0.8%, versus the Bank’s 1.5%). But it would take a bigger miss than that to see any further action in terms of rate cuts.”

Read: How the Bank of Canada is failing investors

Originally published on Advisor.ca

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