Bank of Canada raises key interest rate to 1.5 per cent

Irving Hamilton
July 11, 2018

It was the fourth rate increase in the span of 12 months.

However, the bank expects the negative blow of the trade policies recently put in place to be largely offset by the positives for Canada from higher oil prices and the stronger USA economy. Though markets are looking for the BoC to deliver a "dovish hike", FX and macro strategist Bipan Rai expects that even a neutral statement from the bank will be taken as hawkish and spur loonie strength. China warned it will respond in kind, ratcheting up a potentially destructive showdown between the world's two largest economies. This effect is now judged to be larger, given mounting trade tensions. Although there will be hard adjustments for some industries and their workers, the effect of these measures on Canadian growth and inflation is expected to be modest.

The bank says persistent trade uncertainty and Canada's tariff fight with the United States will shave almost 0.7 per cent from economic growth by the end of 2020 - but it predicts the blow to be largely offset by the positive impact of higher oil prices. Meanwhile, oil prices have risen.

USA tariffs on the auto sector's integrated cross-border supply chains would have "large impacts on investment and employment", the Bank of Canada warned Wednesday in its accompanying monetary policy report.

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So far, the USA has imposed tariffs on newsprint, softwood lumber, steel and aluminum - representing 4.1 per cent of Canadian exports.

The central bank said it expects the Canadian economy to expand by 2 per cent per year on average between 2018 and 2020, noting that recently implemented tariffs on steel and aluminium will likely have only "modest" effects on growth and inflation. That's virtually unchanged from its previous forecast, issued in April. "The market tends to be underweight the Canadian dollar into the Bank of Canada, then scrambles to cover shorts after it", Rai said. Temporary factors are causing volatility in quarterly growth rates: the Bank projects a pick-up to 2.8 per cent in the second quarter and a moderation to 1.5 per cent in the third.

Elsewhere, the Canadian economy is evolving pretty much as Bank of Canada governor Stephen Poloz and his central bank colleagues had anticipated.

That is being offset by higher exports and business investment. That is significantly slower than it should be for an economy at near full capacity.

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