After Stephen Poloz's remarks during a CNBC interview on Wednesday, markets reflected a 68-per-cent probability of a rate hike on July 12, which is when the Bank of Canada will make its next interest rate announcement.The Canadian Press
Bank of Canada Governor Stephen Poloz believes that ultralow interest rates have done their job and excess capacity in the economy is disappearing, suggesting that rate hikes are on the way. This week, we'll find out if he's right.
On Friday, Statistics Canada will release monthly employment figures for June, providing a clear look at an important factor in gauging the strength of the economy.
The job figures arrive amid a winning streak for the economy.
Previous employment figures have been strong: In May, the economy generated a net 54,500 job gains, as full-time jobs rose by 77,000, offsetting declining part-time positions. The result was far better than the 11,000 job gains that economists had been expecting.
Although the national unemployment rate edged up to 6.6 per cent, the rate is not far from its lowest level since 2008.
As well, even though the price of crude oil has retreated below $50 (U.S.) a barrel, the latest downswing appears to be having little economic impact: Canadian gross domestic product has been rising at its best pace since 2010 and rose at an annualized pace of 3.7 per cent in the first quarter.
No wonder markets are taking Mr. Poloz's comments on interest rates seriously.
After the Governor delivered his remarks during a CNBC interview on Wednesday, markets reflected a 68-per-cent probability of a rate hike on July 12, which is when the Bank of Canada will make its next interest rate announcement. That's up from a mere 5 per cent probability of a rate hike earlier this month.
The foreign-exchange market also expressed its view, sending the Canadian dollar to its highest level in four months, to 77 cents against the U.S. dollar, up 0.2 cents.
Bank of Montreal economists are among the observers now expecting a rate hike.
"At long last, the Bank of Canada has acknowledged that the economy is in good shape and that the worst of the oil shock has passed," Benjamin Reitzes, the Canadian rates and macro strategist at BMO Nesbitt Burns, said in a note.
He added: "The 50 bps in cuts from 2015 facilitated the adjustment to the oil shock, which is now over. It's time to take that stimulus back. And lastly … the desire to instill a bit more discipline in the housing market and borrowers must be a key consideration, lingering in the background."
If the Bank of Canada does hike its key interest rate, it will be on side with the U.S. Federal Reserve. The Fed has raised its key rate twice this year and appears to be determined to raise it again later in the year amid an upbeat U.S. labour market.
But the Bank of Canada has at least four things to consider before taking the plunge itself.
First, it has to square a rate hike – it would be its first in seven years after cutting the rate to 0.5 per cent in 2015 – with stubbornly low inflation. The annual inflation rate actually fell in May, to 1.3 per cent from 1.6 per cent in April. That is well below the Bank of Canada's 2-per-cent target. A rate hike could depress inflation even further.
Second, it may have crude oil to contend with if the price of the commodity continues to fall. The sharp drop in the price of oil between 2014 and 2016, when it hit a low of $26 a barrel, pushed the central bank to cut its rate to the current level. Oil has rebounded since then, but the recovery is now sputtering: The price has fallen by almost $10 a barrel since February, to about $46.
Third, the Bank of Canada may have to consider the housing market: Though a cooling market is exactly what the central bank wants, home sales are declining to the point where they may start to dig into economic activity. Sales have fallen 15 per cent over the past three months.
"After a strong start to the year, the economy now appears on the verge of a slowdown as the housing boom turns to bust," economists at Capital Economics said in a note.
As a result, they expect Canadian economic growth will subside to just 1.2 per cent in 2018, from an expected 2.4 per cent in 2017.
And fourth, there's Canadian employment to consider. While impressive recent job gains have bolstered arguments in favour of a rate hike in July, the upcoming employment report for June will provide more clarity.
"We're still leaning toward an October move given the recent weakness in the inflation figures," Nick Exarhos, an economist at CIBC World Markets, said in a note.
He added, though, that this week's employment report could change that opinion.