BOC: Done for the Year?

Everyone says we won’t see a rate hike when the Bank of Canada (BOC) makes its next rate statement at 1:00 pm GMT on Tuesday… and I mean everyone.

Not a single one of the hotshot banks on Bloomberg see an interest rate increase happening. As a matter of fact, many analysts even say that the BOC won’t raise its interest rate until 2012.

Wait a second. Didn’t Canada’s CPI recently spike up? Shouldn’t higher inflation push the BOC to act?

Right you are, lad! Canadian inflation did leap from 3.3% to 3.7% in May, but this isn’t really something the central bank is worried about. According to the BOC, this is nothing but a temporary rise, and overall, underlying inflation remains subdued and inflation expectations remain well-anchored.

Besides, gasoline prices had a lot to do with that big jump in CPI. Year-on-year, gas was up 29.5% in May! Without the sharp upward pull of gas prices, which many say is just a temporary factor, the headline CPI would’ve only come in at 2.4%.

Fine, so the current inflation situation isn’t enough reason to raise the interest rate. But the Canadian economy isn’t performing that badly, right? The labor market has improved a lot over the past few months, and the BOC has said that the economy is growing more or less as expected. Isn’t that enough to convince the BOC to hike?

Wow, you really did your homework, didn’t you? Indeed, Canada’s job market is doing much better than other countries’, what with its unemployment rate falling from 7.6% to 7.4% from April to June.

It’s also true that GDP has been able to been able to exceed consensus forecasts and avoid posting contractions in the past two months. But keep in mind, the boys of the BOC have made it clear that they’re more concerned about how the economy will perform than how it has performed.

BOC sitting back

BOC Governor Mark Carney has been very vocal about the headwinds that the Canadian economy faces. More and more, we’re seeing evidence of slowing global growth, and for that reason, the BOC is expecting tough times ahead.

In a recent interview, the BOC head even went on record to say that the BOC may need to be more “stimulative” if it wants to close the output gap, or the difference between potential GDP and actual GDP. Stimulative??? That’s about as dovish as you can get!

He added that global neutral rates, interest rates which neither place downward nor upward pressure on inflation, are lower than they were prior to the 2008 economic crisis. I don’t know about you, but I take this as a hint that Carney believes rates should remain low, at least for now.

Canada has also been dealing with weak demand from its largest trade partner. The U.S. is currently going through some pretty cruddy times, and it’s been showing in the way Canada’s exports have been suffering. This explains why its trade balance deteriorated from a surplus of 600 million CAD to a deficit of 800 million CAD in just two months!

To make matters worse, it’s become clear that the Fed has put all forms of monetary tightening on hold as talks of QE3 are beginning to emerge.

In this old man’s opinion, the BOC will think twice about tightening its own monetary policy. Raising rates at this point in time would only attract more attention to the Canadian dollar as it would result in a wider interest rate spread against the U.S. dollar. And a stronger Canadian dollar is certainly something the BOC will want to avoid, considering its exports industry is already on shaky ground.

Then again, these are just the thoughts and opinions of an old (but still devilishly handsome) man. What do you folks think? How long will the BOC sit on its hands?