The Canadian Press
Andy Blatchford
OTTAWA–The economy’s impressive run has prompted another interest-rate hike from the Bank of Canada–but looking ahead, it warned of the broadening negative impact of NAFTA’s uncertain future.
The central bank pointed to unexpectedly solid economic numbers as key drivers behind its decision yesterday to hike the trend-setting rate to 1.25 percent, up from one percent.
It was the bank’s third increase since last summer, following hikes in July and September.
While the central bank signalled more rate increases are likely over time, it highlighted the growing, negative impacts related to the unknown outcome of the renegotiation of the North American Free Trade Agreement.
The bank not only made a point of emphasizing the potential negative effects on trade, but also the impacts on business investment in Canada.
Moving forward, the bank said “some continued monetary policy accommodation will likely be needed” to keep the economy operating close to its full potential.
The bank said it also would remain cautious when considering future hikes by assessing incoming data such as the economy’s sensitivity to the higher borrowing rates.
Most of Canada’s big banks raised their own prime rates following the announcement.
For yesterday’s move, the bank could not ignore the encouraging late-2017 data–even as it acknowledged the NAFTA-related risks.
Governor Stephen Poloz stressed during a news conference that the bank remains data dependent, although he conceded a rate hike wasn’t a “no-brainer” this time around.
“Of course, the big cloud over the forecast, as well as our discussion is, well, NAFTA,” Poloz said.
“How immediate? How big? Lots of debate around that,” he noted.
“Given those uncertainties, of course, the possibility of not moving [the rate] this time was in the air.”
In particular, Poloz noted some research has found the trade impacts of the deal’s demise might not have such a major impact on Canada.
However, he stressed that the end of NAFTA likely would take a big bite out of investment in Canada.
“We can’t just relax and assume that it would be a small shock,” he warned.
The bank’s latest monetary policy report, also released yesterday, said trade-policy uncertainty is expected to lower investment by two percent by the end of 2019.
It also said new, or “greenfield,” foreign direct investment into Canada has fallen since mid-2016–a possible impact of the trade uncertainty.
The Bank of Canada warned lower corporate taxes in the U.S. could encourage firms to redirect some of their business investments south of the border.
On the other hand, it predicted Canada to see a small benefit from the recent U.S. tax changes, thanks to increased demand.
In explaining the hike, the bank said in a statement that inflation was close to target and the economy was operating roughly at capacity.
It also said consumption and residential investment had been stronger than anticipated, reflecting healthy employment growth.
“Business investment has been increasing at a solid pace, and investment intentions remain positive,” the bank noted.
Moving forward, the bank predicted household spending and investment to gradually contribute less to economic growth, given the higher interest rates and stricter mortgage rules.
It predicted Canada’s high levels of household debt would amplify the effects of higher interest rates on consumption.
