Bank of Canada governor “disappointed” about economy

Bank of Canada governor Stephen Poloz says the economy is still not strong enough to stand on its own and will likely need the boost from super-low interest rates for longer than he thought even three months ago.

The central banker said at a news conference last week following release of the institution’s monetary policy report and interest rate announcement that the long-expected global recovery has been a “serial disappointment.” And that is keeping Canada’s economy from maintaining a steady growth rate.

“Our serial disappointment with global economic performance for the past several years means that we remain preoccupied with downside risks,” Poloz said.

“Right now, we do not have a sustainable growth picture in Canada,” he added, citing exports, and particularly non-energy exports, as the critical sector that has yet to recover and is keeping business from committing to new investments.

The bank did as expected and kept its trend-setting interest rate at one per cent. The rate has remained unchanged for almost four years.

But the bank cut its April projections for global growth this year by four-tenths of a point to 2.9 per cent and for the U.S. — Canada’s most important foreign market — by more than a full point to 1.6 per cent.

The effect on Canada was less dramatic, but still significant. Economic growth projections for 2014 and 2015 were trimmed by one-tenth of a point — to 2.2 and 2.4 per cent respectively.

As well, the bank set mid-2016 as the target date for the economy to return to full capacity, suggesting that whatever timeframe markets had for the next interest rate hike, it is likely now to occur three months later.

The Canadian dollar weakened only marginally on the news, but CIBC chief economist Avery Shenfeld noted that the “dovish statement was well priced-in to markets ahead of this release.” It later recovered on improved prospects coming out of China.

Still, the effect of the bank’s statements is to make it more likely that interest rates will remain unchanged into 2016, and to put downward pressure on the loonie.

“Overall, the bank’s latest policy statement supports our view that interest rates will have to remain low for longer than the consensus view,” said David Madani of Capital Economics.

The key reasons for the economic downgrade, said the bank, is that the world and particularly the U.S. had an “abrupt slowing” at the start of this year — the American economy actually shrank by an eye-popping 2.9 per cent. And, while growth has resumed, the bounce-back is not sufficient to make up for what has been lost.

For Canada, that will further delay the expected pickup in exports and business investment the bank had been counting on to put the economy on a sustainable growth path.

In his news conference, Poloz repeatedly returned to the theme of the “serial disappointment” in the global recovery that has depressed demand for Canadian exports and that, in turn, has led business leaders to back away from investing due to a lack of trust in the economy.

While he remains confident of the future, Poloz described the economy as a patient that is in the middle of a “healing” process rather than one ready to spring out of a sick bed.

“Consequently, the economy is expected to reach full capacity around mid-2016, a little later than anticipated in April,” the bank said.

Another key change from April is that Poloz does not appear to be as worried about the risk of super-low inflation, acknowledging that prices have risen faster and higher than it anticipated.

But the bank remains convinced that the recent pickup to 2.3 per cent, slightly above target, is driven by temporary factors, specifically a bump in oil prices and pass-through from a weaker loonie. Continued economic slack and heightened competition within Canada’s retail sector should dampen price pressures going forward, the bank said.

It forecasts for inflation to be about two per cent for the next two and a half years, and for core underlying inflationary pressures to remain below the two per cent target until 2016.

While the bank remains upbeat about the future, it is forthcoming about the soft spots in the Canadian economic landscape, particularly on the jobs front.

It points out that the economy has only managed to eke out about 6,000 jobs a month during the past year, but that the record is actually worse than the number suggests. If not for tens of thousands of Canadians dropping out of the work force, the unemployment rate would be higher than the current 7.1 per cent.

There are about 100,000 fewer people in the prime 25 to 54 years age group employed or looking for work today than there were six months ago, the bank noted.

“Continuing labour market slack is also reflected in subdued increases in wages,” it added.

The outlook for exports and business investment, which the bank sees as connected, is also not strong, it said.

“The recovery in exports over the projection horizon will continue to be drawn out,” it said. “The expected strong growth in energy exports and the return of growth to non-energy exports (such as manufacturing) will not be sufficient to fill the shortfall left by the weak performance of non-energy exports relative to foreign activity since the end of 2011.

One positive in the bank’s report is that it expects Canada’s housing market to ease toward a soft landing, and that household finances will stabilize. However, it still warns households remain vulnerable to adverse shocks due to the current high level of debt and elevated home prices.