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Bank of Canada Stays Neutral on 1% Policy Rate as Economic Slack Persists

An article from the Financial Post

Bank of Canada Governor Stephen Poloz extended the country’s interest-rate pause to four years today and remained neutral on his next move, citing slack in the economy that will keep inflation in check.

Policy makers held the benchmark rate on overnight loans between commercial banks at 1% and said the recent jump in exports must be sustained before it triggers the business investment needed to bring the economy to full capacity over the next two years. The decision from Ottawa was expected by all 18 economists in a Bloomberg News survey.

“The Bank remains neutral with respect to the next change to the policy rate: its timing and direction will depend on how new information influences the outlook and assessment of risks,” policy makers led by Governor Poloz, 58, said from Ottawa Wednesday.

The decision extends Canada’s longest rate pause since the 1950s and economists predict Poloz won’t tighten policy before next year as the recovery builds. The bank’s one-page page statement contained multiple references to the economy advancing as anticipated, and said the recent quickening of inflation past the 2% target was caused by temporary factors.

The bank “made it abundantly clear that it saw no prospect for a change any time soon,” Avery Shenfeld, chief economist at CIBC World Markets in Toronto, wrote in a research note. “The key message is that the next move in rates could still be up or down, largely because it is seen as distant enough to be uncertain in either timing or direction.”

Stronger Dollar

Canada’s dollar strengthened further after the decision, appreciating 0.3% to C$1.0892 per U.S. dollar at 10:23 a.m. in Toronto. Two year-government bond yields were little changed at 1.13%.

Canada’s inflation rate slowed to 2.1% in July from 2.4% in June, after accelerating from 0.7% in October. The rise in the inflation rate was caused by a temporary increase in energy prices and the effect of a weaker currency, and not “any change in domestic economic fundamentals,” the bank said Wednesday.

Exports in the second quarter were supported by stronger U.S. demand and the past depreciation of the Canadian dollar, the Bank of Canada said today. Shipments abroad jumped at an annualized 17.8% pace between April and June, leading the 3.1% gain in gross domestic product.

“While an increasing number of export sectors appear to be turning the corner toward recovery, this pickup will need to be sustained before it will translate into higher business investment and hiring,” the central bank said Wednesday.

Subdued Investment

Canada’s dollar has weakened about 6% against the U.S. dollar since Poloz replaced Mark Carney in June of last year. Business investment has remained subdued even amid signs of stronger growth in the U.S. economy, where the expansion reached a 4.2% rate in the second quarter.

The housing market has advanced faster than policy makers anticipated, the central bank said Wednesday, adding that risks remain from the associated buildup of consumer debt.

The risks to the bank’s inflation projection remain “within the zone for which the current stance of monetary policy is appropriate,” the Bank of Canada said Wednesday.

On the global economy, the central bank said that “a solid recovery seems to be back on track” in the U.S., while “the recovery in Europe appears to be faltering as the situation in Ukraine weighs on confidence.”