Dave Larock in Interest Rate Update, Mortgages and Finances
The Bank of Canada (BoC) left its policy rate unchanged last week, as expected. The Bank also sounded more cautious about hiking rates in the near future, and that was somewhat unexpected (at least to market watchers who are not regular readers of this blog).
Uncertainty was the BoC’s key theme, around everything from inflation to wage growth to trade policy. To its credit the Bank was willing to admit that we have entered a period of heightened uncertainty, where its plans may change quickly in response to new data (unlike in the U.S., where the Federal Reserve sounds determined to raise rates regardless of whether the current U.S. economic data support additional increases).
The BoC’s announcement also included the release of its quarterly Monetary Policy Report (MPR), for October. The MPR provides us with the Bank’s latest assessment of the current economic conditions at home and abroad and includes forecasts of key economic data.
In today’s post I’ll provide the highlights from the latest MPR broken down between its international and domestic commentary, with my related comments under each bullet. Then I’ll close with a summary of the four main causes of uncertainty the Bank is now grappling with.
International Highlights from the BoC’s October MPR
In other words this forecast is written in pencil, not in pen.
U.S. consumer spending has been underpinned by increased household borrowing, and most notably, by record levels of auto-loan and student-debt accumulation. The delinquency rates on both loan types have risen consistently this year and that causes me to question the BoC’s optimism around U.S. consumer spending.
I also disagree with the Bank’s assessment that the U.S. labour market is “strong”. U.S. wage growth has barely kept pace with U.S. inflation, even though official U.S. unemployment is quite low at 4.4%.
Lastly U.S. businesses are grappling with heightened trade-policy uncertainty in the same way that Canadian businesses are, and I think that could cause them to delay their investment plans, as may the recent Fed rate increases, which I believe will prove ill-timed.
Slowing Chinese growth matters to our economy because China is the marginal buyer of most of the world’s commodities. So while we don’t have much direct trade with China, its demand significantly impacts world commodity prices, and our economy relies heavily on commodity exports. Bluntly put, if China’s economic momentum slows, our momentum is likely to slow alongside it.
Domestic Highlights from the BoC’s October MPR
I can much more readily see consumption and residential investment declining than I can see business investment holding steady and exports improving. Consumer spending accounts for 58% of our total GDP and if it drops, I think businesses will become more cautious. Also, while the Loonie has sold off recently, it remains at elevated levels, and that combined with the unravelling NAFTA negotiations does not bode well for our exports.
This is significant because inflation should start to accelerate when our output gap closes. The fact that it hasn’t yet done so has caused the BoC to conclude that our economy’s potential output is expanding more rapidly than its actual output. The Bank now expects that it will take until mid-2018 for the output gap to close. (Governor Poloz coined our current period of extended non-inflationary growth as “the sweet spot” in the economic cycle.)
Even that forecast shouldn’t be taken as a guarantee however. The BoC has been predicting that the output gap will close in the not-too-distant future for some time now, so I’ll believe it when I see it.
That’s another way of saying that with today’s high debt loads the BoC won’t need to raise rates by as much as has been required in past cycles to slow the economy and bring inflation back into line. And it should also reassure those who continue to fear that the BoC will raise rates precipitously.
In spite of these specific observations, the Bank sounded upbeat about our labour market’s overall momentum, which sounded somewhat contradictory to me.
As mentioned above, uncertainty was the BoC’s watchword in its latest MPR, and to that end, here are the four key forecasting risks that the Bank is focusing on in the current environment:
The Bottom Line: The BoC believes that we are now in a period of heightened uncertainty as a result of the numerous factors outline above. Against that backdrop, additional rate increases are highly unlikely over the near term and that means that both our fixed and variable mortgage rates should remain at or near their current levels until our economic picture becomes clearer, and until the Bank is much more confident about the appropriate path forward.
David Larock is an independent mortgage broker and industry insider specializing in helping clients purchase, refinance or renew their mortgages. David's posts appear on Mondays on this blog, Move Smartly, and on his own blog, Integrated Mortgage Planners Email Dave