Yesterday, BOC Governor Stephen Poloz gave a lecture at Queen’s University in Kingston, Ontario. And the release of the text of his speech, as well as his actual speech and later presser, caused the Loonie to slide hard across the board.
Why? What did Poloz have to say? Well, here are the two major takeaways from Poloz’s speech that you need to know about.
1. BOC a bit cautious on hiking further
In his prepared speech, Poloz said that “we [the BOC] believe that interest rates are likely to move higher over time.”
However, Poloz also cited potential reasons as to why the BOC has to take it slow.
Poloz, for example, noted in his speech that “Traditionally, labour force participation rates decline during recessions and rebound during periods of economic growth.” However, “while most other population groups have seen their participation rates recover from the Great Recession, that has yet to occur for young Canadians.”
He also noted that there’s still slack in the Canadian labor market, citing the relatively subdued wage growth. Poloz also said that “it is not much of a stretch to imagine that Canada’s labour force could expand by another half a million workers,” which is another argument that there’s slack in the labor market.
Moreover, “We [the BOC] cannot know in advance how far the capacity-building process can go, but we have an obligation to allow it to occur.”
And here’s the clincher (emphasis mine):
“After looking at a much wider range of labour market indicators, the Bank has concluded that there remains a degree of untapped supply potential in the economy. This is important, for it means that Canada may be able to have more economic growth, a larger economy, and therefore more income per person, without generating higher inflation.”
Basically, Poloz is saying that the Canadian economy may still have room to grow, but without the risk if a surge in inflation. And that implies that the BOC does not need to hike as much to keep inflation in check.
To add to that, Poloz was also asked about the effects of higher interest rates on the rather high household debt in Canada during the presser. And Poloz mentioned that “the economy may be as much as 50% more sensitive to a given rate of interest today than it was, say, 10 years ago,” which is another implied reason to be careful in hiking further.
And when Poloz was asked directly when the BOC can be expected to hike next, Poloz wouldn’t answer when but he did say that (emphasis mine):
“We all know that interest rates are low and that suggests that in a more normal period they would be higher than they are today. But getting there from here is a very gradual process.”
2. NAFTA uncertainty is bad for investment
During the Q&A portion, Poloz was asked about the effects of NAFTA.
And Poloz answered that if NAFTA “were changed significantly or abrogated or something, then we [the BOC] don’t know. There’s just too many possibilities.”
However, Poloz added one thing that the BOC positively does know is that “strategically, it [NAFTA] changes the mindset around investment.”
Poloz then cited some examples of businesses telling the BOC that they’re being cautious in investing in Canada because of NAFTA talks.
However, Poloz did stress that business invesment “has gone up a lot” in the last four quarters. It just so happens that the uncertainty surrounding NAFTA has a dampening effect, which is why the BOC also projects weaker business investment in Canada.
Poloz then tried to sound more optimistic by saying that “if the uncertainty went away, that would, you know, be like animal spirits – we’d have a bit of a recoveryin those [business investment] plans.”
Overall, Poloz remained optimistic on the Canadian economy, particularly the labor market. Poloz even gave uncertainty surrounding NAFTA talks a positive spin. It’s therefore only natural that the BOC believes that “interest rates are likely to move higher over time.“
Despite the BOC’s hiking bias, however, Poloz’s clear message in his speech and presser is that interest rates aren’t likely moving up again anytime soon. And if they do move up, it would be a “very gradual process.” And this cautious message from the BOC head is very likely why the Loonie slumped as hard as it did. Well, that and the slide in oil prices at the time.