Top 5 takeaways from the Bank of Canada’s decision

John Shmuel 
Christinne Muschi/Reuters

The Bank of Canada cut its economic growth forecast for this year and next in its interest rate decision Tuesday. Above, Bank Governor Mark Carney addresses the International Economic Forum of the Americas.

The Bank of Canada turned slightly more dovish Tuesday as it trimmed its growth outlook for Canada and warned that the global economic situation had weakened.

In an expected move, Governer Mark Carney and his team left the bank’s overnight lending rate unchanged at 1%. It has remained at the near-historic low since September 2010.

But the bank continued to retreat from some of the more hawkish language it hinted at in previous statements in April and June.

“This is a substantially more dovish statement,” said Derek Holt, economist with Scotia Capital.

Below, we outline the top five takeaways from the bank’s July 17 statement.

Global growth prospects have weakened

In its April outlook, the Bank of Canada said that it was seeing signs of improvement in the global economy. That is no longer the case.

“Global growth prospects have weakened since the Bank’s April Monetary Policy Report,” the bank said.

It said that developments in Europe point to a renewed contraction, while emerging market countries such as China have seen their growth slow “greater than anticipated.”

The bank also warned that global financial conditions have deteriorated since its April report.

Despite the gloomy outlook, however, the bank said it still assumes the eurozone crisis will be contained.

Canada’s economic outlook cut this year and next

Canada won’t be spared from a slowing global economy. The Bank of Canada trimmed its forecast for economic growth in 2012 to 2.1% from its earlier 2.4% target.

It also sees slightly weaker growth in 2013, lowering its outlook to 2.3% from 2.4%.

“While global headwinds are restraining Canadian economic activity, domestic factors are expected to support moderate growth in Canada,” the bank said.

There are risks, however. The bank expects consumption and business investment to be the main growth drivers, but record household debt and slowing housing activity could negatively impact that growth.

On the upside, the bank does view a rebound in growth occuring in 2014, saying the economy will grow by 2.5% for that year.

Housing to cool

This marks the first interest rate announcement since Finance Minister Jim Flaherty announced new mortgage rules in Canada that, among other things, lower the maximum amortization period to 25 years.

“Housing activity is expected to slow from record levels,” the bank said.

June data already reveals some cooling in home sales following the introduction of the new mortgage rules. Existing home sales dropped 1.3% in June from the month before and were down 4.4% from the year before

“The Bank of Canada will likely want to see the impact these new rules have on domestic spending before lifting rates,” said Diana Petramala, economist with TD Economics.

Output gap to close in latter half of 2013

In another sign that the bank sees global headwinds slowing Canada’s economy, it said that it now expects the country’s output gap to remain until 2013. The output gap is the spare economic capacity of a country (e.g. the difference between the actual capacity and what it could achieve at its most efficient, productive level).

The bank had previously expected the output gap to close in the first half of 2013.

“This is consistent with guidance we’ve been consistently providing on how the BoC has been underestimating spare capacity in the Canadian economy partly via over-estimating 2012 growth prospects,” Mr. Holt of Scotia Capital said.

Bank eyeing lower commodity prices

Concerns over lower commodity prices have crept into the bank’s latest statement.

In April, the bank warned about the effects of high commodity prices on economic momentum. Now the bank expects the recent pullback in prices to keep inflation below its 2% target until mid-2013.

“Given the recent drop in gasoline prices and with futures prices suggesting persistently lower oil prices, the Bank expects total CPI inflation to remain noticeably below the 2 per cent target over the coming year,” the bank said.