Canada’s central bank holds overnight rate at 4.25 per cent, saying economy in line with projections
Fiona Anderson
Sun
The Bank of Canada kept its bank rate unchanged Wednesday for the second time in as many months, and some economists are predicting that its next move could be a rate cut, ending two years of small but steady increases.
Canada’s central bank held its overnight rate at 4.25 per cent, saying the Canadian economy was in line with the bank’s earlier projections in terms of output and inflation. The bank said it expected the economy to “operate at about its production potential, with total [consumer price index] inflation returning to the two per cent inflation target in the second half of 2007.”
The main risk facing the country’s economy is that U.S. household demand could slow more rapidly than expected, the bank said.
The bank has been slowly increasing its overnight rate since August 2004, when the rate stood at 2.25 per cent. Raising the rate is aimed at dampening an overheated economy and keeping inflation in check, while lowering the rate is used to stimulate the economy.
If the Bank of Canada cuts its overnight rate, as some economists are predicting, that could lead to lower mortgage rates, and keep British Columbia’s housing market hot.
Variable-mortgage rates are based on the prime lending rate, which is 1.75 percentage points above the Bank of Canada’s overnight rate. And while fixed-mortgage rates are determined by long-term bond rates, they also tend to move in the same direction as the Bank of Canada rate. On Wednesday, both Scotiabank and CIBC announced cuts in their fixed-mortgage rates, and several other banks made similar cuts in August.
“If we don’t see any more rate increases then our housing market will be that much more active,” said Helmut Pastrick, chief economist for Credit Union Central B.C. “If we do see rate cuts, that will improve buyer affordability and help boost unit sales and the housing market.”
Cameron Muir, senior market analyst with Canada Mortgage and Housing Corp., said consumers shouldn’t “fool themselves to believe that the bank rate is going to approach the historic low levels that we had in 2004.”
Even if rates did drop, CMHC expects the housing market to become “more balanced” in 2007.
Low mortgage rates created very strong demand for housing in Greater Vancouver that led to rapidly rising prices, Muir said. But prices are starting to reach the point where, even with a lower mortgage rate, housing is unaffordable, he said.
If rates went down, the affordability ceiling may take longer to reach, but it would be a “short-lived” delay, Muir said.
CIBC World Markets’ chief strategist Jeff Rubin believes the Bank of Canada’s next move will be a rate cut. In a research note, Rubin said he expected the central bank to cut rates 25 basis points (or 0.25 percentage points) as many as three times over the next 10 months.
“A crumbling U.S. housing market and emerging weakness in the U.S. consumer [market] should bring about interest rate cuts on both sides of the border beginning early next year,” CIBC World Markets’ chief strategist Jeff Rubin wrote.
David Tulk, economist with TD Bank Financial Group agreed that the Bank of Canada’s next move would be a rate cut.
“So while the course of monetary policy is steady-as-she-goes for the remainder of this year, our view is that the next move the Bank will make is to cut rates in early 2007 to prevent the headwinds from the U.S. from unduly stalling Canada’s economic momentum,” Tulk wrote in a commentary. “Nevertheless, with economic growth expected to remain at or above two per cent, the reduction in rates will likely be modest, on the order of 50 basis points over the first half of 2007.”
Expecting the Bank of Canada to cut rates reflects a change in outlook, Pastrick said.
“The majority view seems to have shifted that at least in Canada there will be a rate cut sometime in the next three to six months,” Pastrick said.
Holding that view are those who believe the U.S. economy is in a substantial slowdown, which will pull down Canada’s economy as well, Pastrick said. But he believes the longer-term outlook is still too uncertain to call.
“I think the risk between a possible rate cut and a possible rate hike are roughly even,” Pastrick said. “As a result I’m forecasting that rates will remain relatively unchanged in the next year or two.”
“[If] I see a more definite shift in growth prospects either to the downside or the upside, I would change my rate forecast accordingly,” he added.
© The Vancouver Sun 2006
