E Raising The Bank Rate Today Gives The Bank Of Canada Room To Lower It In The Future

Optimistically, the Bank of Canada raised its policy rate by ¼ point today, despite providing all manner of reasons for deep concern for the future. One has to wonder if the Bank is setting up for subsequent rate cuts in the face of growing risks to the Canadian and world economies as the U.S. declares economic war on its trading partners.

Let’s start with the Bank’s reasoning why this rate hike is needed [1]. Relying heavily on its own survey of investment intentions, the Bank concludes that “business investment is expected to expand at a modest pace following the strong growth observed since the beginning of 2017. Firms in all regions expect capacity pressures to intensify”. The Bank believes that additions to business capital investment will lead the way to overall economic growth in the range of 2% this year and next. Moreover, this growth will be driven, in large measure, by robust growth in the United States in the range of 3% and by modest growth and inflation in other advanced economies. Supporting this optimistic outlook is the expectation that global growth will continue at 3.75 %. Specifically, Canadian exports are expected to benefit from continued high oil prices as oil settles in the range of $70-75 bbl.  

The difficult part in the Bank’s analysis comes when it confronts the risks to this optimistic outlook. The Bank starts off with a threat to the world trade order, stating that the “This escalation {in tariffs} has heightened concerns about a more pronounced shift away from a multilateral, rules-based trading system. These concerns could dampen the outlook for global trade and investment growth. Escalating trade tensions pose considerable risks to the outlook “.An understatement?

The Bank goes further to acknowledge that “US businesses are starting to report that trade policy uncertainty is dampening an otherwise upbeat outlook for investment, although this is not yet evident in the data.  Thus, the Bank’s projection for the US economy, therefore, incorporates some modest adverse effects of trade policy uncertainty on investment.” Since most economic data is a look at the past, it is little wonder that this escalation in tariffs is not evident from a current snapshot. However, the worry is about the future and, here, the Bank does not provide much insight from their policy moves.

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