Bank of Canada Keeps Rate Unchanged as Economy Wobbles

OTTAWA—The Bank of Canada is keeping its trend-setting interest rate at 1 percent, saying economic conditions have worsened somewhat in the past few months and continued monetary stimulus remains necessary.

Markets had anticipated the rate decision and the dovish explanation from governor Stephen Poloz, given that both the U.S. and Canadian economies underperformed expectations so far into 2014. In anticipation, markets had shaved value off the Canadian dollar versus the U.S. currency in the past two days.

Poloz did not disappoint in the Wednesday morning statement, saying that in his view the global and U.S. economies, which are critical to Canada, continue to struggle.

“Global economic growth in the first quarter of 2014 was weaker than anticipated … and recent developments give slightly greater weight to downside risks,” the bank said.

“The U.S. economy is rebounding after a pause in the first quarter, but there could be slightly less underlying momentum than previously expected.”

While Poloz conceded that headline inflation had moved to his target of 2 percent, he undercut the significance of the factor in his thinking about where to take monetary policy, noting that underlying core inflation at 1.4 percent remains well below target and weak underlying economic growth suggests the risks to low inflation remain as important as before.

For the Canadian economy, the bank noted that the first-quarter growth rate of 1.2 percent was slightly lower than it had forecast, but blamed severe weather and supply constraints for the disappointing performance.

The overall message by the Bank of Canada will likely be read as supportive of the view of many economists that the Canadian central bank won’t even think about doing anything to interest rates until about this time next year, or even later.

Some may even take the dovish language as acknowledgment that a rate cut can’t be completely dismissed.

What may have held the bank back from further reducing borrowing costs—which would have the effect of stimulating the economy by making it more attractive for households and businesses to borrow and spend—is the fear that the housing market will tip into bubble territory. As well, the bank has warned households against taking on excessive debt they may not be able to service once rates do start rising.

But the bank noted it is no longer as worried about housing and household debt as it once was, although it said debt remains at elevated levels.

“There are continued signs of a soft landing in the housing market and a constructive evolution of household imbalances,” it said.

As it has in the past few statements, the bank is still holding out hope that as the global economic recovery gathers steam, there will be increased demand for Canadian products, which will spur on businesses to invest on machinery and equipment and increased capacity to meet the demand. That hasn’t happened yet—first quarter exports were down, as was business investment.

“[Still] the ingredients for a pickup in exports remain in place, including the lower Canadian dollar and an anticipated strengthening of foreign demand,” the bank said. “Improved corporate profits, especially in exchange rate-sensitive sectors, should also support higher business investment in the coming quarters.”

The rate announcement came as Statistics Canada reported the country slipped to a trade deficit of $638 million for April, compared with a surplus of$766 million in March.

The agency said exports fell to $42.8 billion, as declines in exports of energy products and metal and non-metallic mineral products were partially offset by an increase in shipments of forestry products and building and packaging materials.

Imports increased for a third consecutive month to a record $43.5 billion.