On January 17, National Bank’s Stéfane Marion, one of the better Bay Street economists, wondered if Bank of Canada Governor Stephen Poloz might adopt explicit forward guidance to weaken the value of the dollar. Marion observed that the central bank’s autumn revelation that it had “actively considered” cutting interest rates had weighted the loonie for only a short time. With a new policy announcement imminent, Marion asked, “why not surprise the market with a conditional commitment to not raise rates for at least another year?”
It was a provocative question. It also was a rhetorical one: most central banks, including the the Bank of Canada, resort to explicit statements about their policy intentions only in the case of an emergency. Canada’s economy lacked verve, but, as Poloz had said on several occasions, it was doing ok. “We’re not exactly holding our breath on forward guidance,” Marion wrote in a note to clients. “But if you ask us, a weaker Canadian dollar and low rates remain critical ingredients when it comes to driving future growth – perhaps even more so considering the incoming president’s vows to bolster American competitiveness and blunt access to the key US market.”
Why am I resurrecting a seven-week-old note from an economist? Because Marion might have been onto something. The Bank of Canada didn’t adopt forward guidance in January, but it was unusually vocal about the exchange rate. Poloz made clear that he thought the dollar’s value was hurting growth and that the traders who were keeping it aloft were misguided.
His verbal intervention worked initially, just as it had in the fall. But as days passed, and the U.S. dollar and American interest rates rose, Canada’s currency and Canadian yields rose with them. Market participants listened to Poloz’s message, thought about it, and then decided to go back to doing what they were doing.
You have to think that the market’s refusal to listen is causing some frustration at the Bank of Canada. It acknowledged in its latest policy statement on March 1 that the most recent consumption and housing data suggest that economic growth probably was “slightly stronger” in the fourth quarter than forecast. Still, “exports continue to face the ongoing competitiveness challenges described in the January MPR,” the central bank said, referring to the Monetary Policy Report, its quarterly assessment on the state of the economy. “The Canadian dollar and bond yields remain near levels observed at that time. While there have been recent gains in employment, subdued growth in wages and hours worked continue to reflect persistent economic slack in Canada, in contrast to the United States.”
The Bank of Canada wasn’t so disenchanted that it felt a policy change was needed: policy makers left the benchmark interest rate unchanged at the ultra-low setting of 0.5%. But the central bank clearly is concerned. It advised the public to disregard faster headline inflation, which has been pushed higher by new carbon taxes in Ontario and British Columbia. “The bank is looking through these effects, as their impact on inflation will be temporary,” the statement said. Other measures of inflation are below 2%, the Bank of Canada’s policy target, implying “material excess capacity in the economy.” Policy makers called the uncertainties facing the Canadian economy “significant,” a reference to the possibility that Donald Trump will upend the global trading system.
These are not the words of a central bank that intends to raise interest rates anytime soon. They might be the words of a central bank that is running out of patience with the current state of things. Expect Poloz and other policy makers to have one last go at convincing markets to price Canada differently. If they fail, they will either have to accept that the market is right—or try something else.
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