4 September 2008

Loonie leaps ahead as bank stands pat

The following article is excerpted from the 4 September 2008 edition of the “Toronto Star”.

Canada's monetary authorities stood on the sidelines yesterday as jobs disappeared, the economy slowed and federal parties prepared to fight an election.

Despite strong indications that inflation is a fading threat, Bank of Canada governor Mark Carney and his five deputies held the bank's key overnight lending rate at 3 per cent.

The rate is low by historic terms, but is actually higher than the yield investors were demanding yesterday to hold five-year Government of Canada bonds.

It is also well above the 2 per cent rate for comparable loans to banks in the United States.

The do-nothing decision spurred currency traders to bid up the dollar – making our exports more expensive to foreigners – and disappointing the economist for a major labour union.

"The central bank should have decisively cut interest rates today," argued Erin Weir of the United Steelworkers, noting much has changed since the last rate announcement in July, including the loss of 95,000 jobs that same month.

He questioned why the bank has done much less to stimulate the economy than the Federal Reserve Board, the central bank of the United States.

There, the combination of steeper rate cuts and tax refunds, helped lift economic growth in the spring quarter to an annual rate of 3.3 per cent versus 0.3 per cent in Canada.

Economist David Wolf of Merrill Lynch (Canada) noted our economy and job market would have shrunk in recent months if not for an increase in government spending, investment and hiring. But he questioned how long governments will have the revenue to maintain the approach.

Even so, most economists and traders in futures contracts had expected the Bank of Canada would make no move yesterday. ...

The dollar rose nearly two cents to as high as 94.53 in the 40 minutes after the Bank of Canada rate announcement, but ended the day at 94.25 cents (U.S.).

Canada's economic growth has been slower than expected, the bank acknowleged – and U.S. growth could fall to low levels for a prolonged period considering global financial markets remain in turmoil.

Bank officials also pointed out that the unexpectedly rapid fall in prices for oil and other commodities is likely to provide relief on the inflation front. ...

But the bank defended its inaction by arguing that consumer demand and income gains remain strong in Canada.

It also said that financial conditions are significantly better than in most other countries.

Economists forecast Canada's economy will only grow by only about 1 per cent this year, yet most expect the bank will not cut its overnight lending rate before early in 2009....