Back in 2008, Bank of Canada Governor Mark Carney made a name for himself in his new job by correctly reading the growing economic and financial storm clouds and slashing interest rates well ahead of the global curve. But as his tenure as Canada's central bank chief winds down, his final months may be remembered for falling behind the curve on Canadian rate policy.
Tuesday morning's rate decision statement from the bank stood pat on all significant policy direction – despite being spattered throughout with acknowledgments that the domestic economy has deteriorated and risks to the downside have multiplied. The bank continues to insist that "over time, some modest withdrawal of monetary policy stimulus will likely be required" – its long-standing wording that is known in the markets as the "tightening bias," an implied signal that the bank is still leaning toward rate hikes next year.
There are only two explanations for the untouched language around the tightening bias: The Bank of Canada either has its head in the sand about the state of the Canadian and global economies, or it is more concerned about wrestling household debt into submission than about the more traditional factors that define its monetary policy.
After all, the central bank acknowledged that Canada's pathetic 0.6-per-cent annualized GDP growth rate in the third quarter was "weak," and it removed from the statement its previous prediction that the economy would return to full capacity by the end of 2013. It admitted that core inflation – essentially, the bank's guiding determinate for rate policy – has been "lower than expected," and now is expected to return to the 2-per-cent mid-range of the bank's inflation target band within 12 months, rather than by mid-2013, as previously predicted.
All of that would normally be signalling that rate increases are further away than previously thought. Throw in the risks the central bank identifies in Tuesday's statement that weren't included in its previous statement in October – the U.S. fiscal cliff and the potential for "major shocks" to global financial conditions from both the U.S. and Europe – and you could make a strong case for at least softening the wording of the tightening bias.
Yet the statement also continues with the Bank of Canada's obsession with the housing market and the related household debt burden – despite clear, and growing, evidence that housing has slowed significantly, even alarmingly in some Canadian markets.
The bank said it's "too early" to be sure the slowdowns in housing and household credit markets will stick. But these nagging doubts, which certainly appear to be driving the bank's persistence on the tightening-bias rate guidance, come at the growing expense of some big components of the Canadian economy – Canada's export competitiveness, for instance.
The country's third-quarter current account deficit was a whopping $18.9-billion, driven largely by a growing deficit in the trade of goods. The continued strong Canadian dollar is absolutely a culprit, even by the bank's own reckoning.
Yet the dollar remains strong, even amid the negative trade numbers, and weaker oil prices, that would normally signal a weaker currency. The continuing expectation that the Bank of Canada will be an early rate-raiser continues to keep forex traders in the Canadian dollar – and it's the tightening bias that keeps this trade intact. A strong message from the central bank that it is softening its guidance on future rate hikes would give Canada's huge export sector a break it sorely needs – and one that's justified by the fundamentals.
Giving him the benefit of the doubt, perhaps Mr. Carney wants to wait for more clarity on the U.S. budget negotiations before committing himself to adjusting the bank's long-standing guidance. But unless the economic fundamentals improve between now and the bank's next rate-setting announcement on Jan. 23, some tweaking of the language should be warranted at that time, regardless of the machinations in Washington. Any further delays from Mr. Carney could set the Canadian economy on a difficult course for his successor to navigate.
David Parkinson