BoC holds key rate, cites moderate growth

The Bank of Canada (B0C) today maintained its target rate at 1.25%. The bank rate is correspondingly 1.5% and the deposit rate is 1%.

The bank said higher interest rates will be warranted over time, but some monetary policy accommodation is still needed to keep inflation on target. Further, the bank said it will continue to monitor the evolution of economic capacity and the economy’s sensitivity to interest rate movements.

It also reiterated its position that future policy decisions will be data-dependant.

Outlook for inflation and growth

In its monetary policy report, the BoC says temporary factors weighing on inflation have largely dissipated. Inflation is expected to be modestly higher than forecast in the bank’s last monetary policy report from January, returning to the central bank’s 2% target for the rest of the projection horizon.

The BoC expects Canada’s GDP, which was 1.3% annualized in Q1, to rebound in the second quarter, resulting in a 2% average growth in the first half of 2018. Slower Q1 growth reflects weakness in housing (in response to new mortgage guidelines and other policy measures) and lower exports (partly due to transportation bottlenecks).

The central bank acknowledges that capacity constraints in some sectors are weighing on export growth.

“Continued gains in business investment should build additional capacity in those sectors and in the economy more generally,” says the bank in a release. “However, both exports and investment are being held back by ongoing competitiveness challenges and uncertainty about trade policies.”

Still, over the next three years, the bank projects above-potential growth, with real GDP growth of about 2% in both 2018 and 2019, and 1.8% in 2020.

Read: IMF forecasts slower Canadian growth relative to U.S.

“This stronger profile for GDP incorporates new provincial and federal fiscal measures announced since January,” says the bank. “It also reflects upward revisions to estimates of potential output growth, which suggest the Canadian economy has made some progress in building capacity.”

Further, the bank describes consumption growth as “robust,” supported by strong labour growth.

The bank will continue to assess labour market data for signs of remaining slack.

Read: The story behind Canada’s labour market trends

Economic details

The Canadian economy has been operating close to capacity for three consecutive quarters, though output in Q1 was lower than expected, at an estimated -0.75% to 0.25%.

Annual potential output growth is projected to remain at 1.8% over the projection horizon, before increasing to 1.9% in 2021. The BoC notes that some firms face “significant” production constraints, with industrial rate of capacity utilization close to its historical peak.

Business investment is expected to expand modestly, despite trade uncertainty and competitive challenges. The central bank says investment spending will be “particularly robust” for firms in the service and information technology sectors.

Read: Firms positive about future, but some see moderation ahead: BoC survey

The bank expects oil prices to stay near recent levels throughout its projection horizon.

Global growth and risks

Global growth is “solid and broad-based,” says the central bank, citing U.S. spending and tax cuts. That growth is expected to ease from about 3.75% in 2018 to about 3.5% in 2020.

The BoC acknowledges potential risks to global expansion from escalating trade tensions between the U.S. and China, and it also cites NAFTA uncertainty. Risks to the central bank’s inflation outlook include:

• weaker investment and exports;
• a sharp tightening of global financial conditions;
• stronger GDP growth in the U.S.;
• rising household debt; and
• a decline in house prices.

The central bank has raised rates three times since last summer, most recently in January. The next scheduled date for announcing the benchmark rate is May 30. The next MPR will be published on July 11.

Read the full monetary policy report.