Bank of Canada Deputy Governor Time Lane spoke to the Saskatoon Regional Economic Development Authority today. His speech covered the history of Canadian trade, the benefits and challenges of free trade, recent challenges, and the Bank’s outlook.
Much of the speech was given over to the development of trade linkages, specialization that has emerged, and the resultant shifts in the structure of the economy.
More interesting was the discussion of export challenges in the post-financial crisis period, and the outlook for the economy more broadly. On the first point, the Bank of Canada continues to dedicate resources to diagnosing export underperformance, including analysis down to the firm level. Lane suggested that part of the story is that expanding market share isn’t just a matter of price (and so exchange rates), but can depend on where production will be located within internationally integrated supply chains. These decisions are not made often, and as such Canada has had to rely on other areas, such as household spending, to drive growth.
Regarding the outlook for trade, reasons for optimism were given: freer trade such as via CETA is expected to help, but a shift towards protectionist sentiment and uncertainties around potential changes to NAFTA pose downside risks.
Of the greatest interest to markets are likely Deputy Governor Lane’s comments regarding the economic outlook more broadly. His language mirrored that of the September 6th decision, noting that growth is becoming more broadly based and self-sustaining, and that the import mix has become encouraging, pointing to rising business investment. At the same time, the language around the currency was strengthened somewhat, noting that “We will be paying close attention to how the economy responds to both higher interest rates and the stronger Canadian dollar.”
Key Implications
After a policy hike that came with no prior communication and a limited statement, all eyes were undoubtedly on Deputy Governor Lane as he delivered the Bank of Canada’s first speech since the July interest rate increase. Now that the ‘insurance’ interest rate cuts of 2015 have been removed, the key question has become when the process of interest rate normalization will get underway, and how quickly it might progress.
In the event, the tone of September’s rate hike decision was more or less held. The economic outlook saw a more positive tone, as the discussion of the potential for continued business investment suggests continued breadth in the sources of economic growth. On the flip side, the statement was more explicit regarding the level of the Canadian dollar – rather than acknowledging its strength as in the rate decision, the dollar was discussed alongside higher rates as factors the Bank will be paying close attention to. This was likely meant to temper expectations of future rate hikes that helped drive the loonie up nearly 2 cents against the U.S. dollar after the September 6th decision. Indeed, the currency dropped back roughly half a cent after Lane’s remarks were made public.
Ultimately, with GDP growth still tracking well above potential for the second half of the year, conditions are likely to remain supportive of further monetary tightening, and we continue to expect another policy interest rate hike this fall. That said, if recent experience has shown us anything, it is that coming decisions are going to be data-driven. The emphasis on assessing the impact of the July and September hikes suggests that should there be signs of deterioration in the growth outlook, a more dovish stance from the Bank of Canada should be expected – whether telegraphed in a speech or not.
