Interest rates to remain low and on hold for longer

The Bank of Canada announced on October 22nd, 2014 that it was holding its trend-setting overnight lending rate at 1 per cent.

Its most recent rate announcement and Monetary Policy Report suggest a number of reasons why interest rates aren’t going up anytime soon:

1) Recovery in exports not ready to stand on own legs. Recent growth in the U.S. has led to a weaker Canada–U.S. currency exchange rate. That is good news for Canadian exports to the U.S. , our largest trading partner. The Bank still expects that the engine for Canadian economic growth will switch from consumer spending to exports. A hike in its trend-setting interest rate would put that in jeopardy, so making that switch depends in part on the Canadian dollar remaining at its weakened level.

2) Business investment remains weak. Stronger investment is the other engine for Canadian economic growth that the Bank expects to take over from consumer spending. Stronger business investment continues to rely on -- and will likely lag -- a sustained improvement in exports. Stronger exports and investment both require that interest rates remain low.

3) Inflation is on target. The Bank said it views overall inflation as evolving in line with the Bank’s expectations. The Bank also said, “underlying inflationary pressures are muted”. That means it thinks its trend-setting policy interest rate is right where it needs to be. That makes raising or lowering it is unnecessary. Inflation remains close to the Bank’s 2 per cent target.

4) Global uncertainty. The Bank noted that global economic growth was weaker than it anticipated in its July Monetary Policy Report, and is facing headwinds. It also recognized a “significant correction in global financial markets”. European economic growth was revised down significantly over the forecast horizon. The recent decline in oil prices also introduces uncertainty for investment in Canada’s energy sector.

5) Canadian economic growth will be running below capacity for longer. The Bank pushed back the date as to when it expects the economy to return to full capacity. It previously expected it to happen “around mid-2016”. Now it expects it will take until “the second half of 2016”.

As of October 22nd, 2014, the advertised five-year lending rate stood at 4.79 per cent, unchanged from the previous Bank rate announcement in September and down 0.55 percentage points from one year ago. The next interest rate announcement will be on December 3rd, 2014.

The next update to the Monetary Policy Report will be on January 21st, 2015.

(CREA 10/22/2014)