Wednesday, June 4, 2014

TD Economics

Data Release: Higher inflation and subdued growth lead to minor language, not rate, change
  • As was universally expected, the Bank of Canada held firm on its overnight rate, keeping it at 1.00% (unchanged since September 2010).
  • Recent developments have made the Bank of Canada's job increasingly difficult, as it balances off a somewhat higher trajectory for CPI inflation against lackluster real GDP growth in the first quarter of 2014.
  • This said, the world seems to be largely unfolding in line with the Bank's narrative.  While total CPI inflation hit 2.0% y/y in April, the Bank largely chalked up the surprise to transitory factors such as the increasing prices of natural gas and other energy areas.  Meanwhile, core inflation came in at a more subdued 1.4% y/y, albeit the latest in what looks to be a slow moving upward trend. 
  • At the same time, the muted growth in the first quarter of this year came in modestly below the Bank of Canada's projection in the April 2014 Monetary Policy Report (MPR) (1.2.% vs 1.5%, respectively).  In spite of the weak growth in the first quarter, the Bank emphasized the impact of temporary factors, such as severe weather in Canada and the U.S., and highlighted its view that the lower dollar and anticipated strengthening of foreign demand should spur exports while stronger corporate profits should support business investment going forward.   
  • Looking beyond Canada and the U.S., developments in the global economy were weaker than the Bank's expectations in the April MPR, with the Bank emphasizing slightly greater weight on downside risks from the global economy.
  • Finally, rounding out the risks identified by the Bank is the elevated level of household debt, which continues to be on the Bank's radar but doesn't look to be a driving concern as growth in household debt has slowed markedly since the recession.
Key Implications
  • All in all, despite mixed signals coming from prices and growth, the world is generally unfolding in line with the Bank's expectations laid out in its April MPR, justifying its continued policy of maintaining the overnight rate at 1.00% and emphasis on the downside risks to the inflation outlook.
  • With both total and core inflation tracking higher than the Bank's April projections for the second quarter and growth expected to pick up modestly over the remainder of the year, expect to see the emphasis on the downside risks to inflation diminish gradually going forward.  That said, in an environment where core inflation remains below 2%, the Bank will have wiggle room to maintain its currently highly-accommodative stance into 2015.
  • With this in mind, TD Economics continues to expect the next interest rate hike won't come until the second half of 2015.

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