Bank of Canada rallies stocks on rate cut

But stocks rally after Bank of Canada move sparked by oil price crash, federal defict fears

OTTAWA— Jobs will be harder to find and the economy will slow as the oil price crash bites in coming months, the Bank of Canada said as it sought to cushion the blow by unexpectedly lowering its key interest rate.

In a signal that fallout from sliding oil prices could be much worse than expected, the central bank reduced its overnight interest rate to 0.75 per cent from 1 per cent.

The Bank of Canada uses the key rate to influence the borrowing costs that commercial banks charge business and consumers, which allows the central bank to boost economic growth if there is a risk of sharp downturn.

“We decided that it was appropriate to take out some insurance against that downside risk in the form of a lower interest rate profile,” bank governor Stephen Poloz said after the rate announcement.

It likely means lower mortgage costs for homebuyers and a longer grace period — probably until next year at least — before mortgage holders are squeezed when the Bank of Canada begins to drive up borrowing costs to head off a burst of inflation.

The bank had not altered its key interest rate since September 2010 and the surprise decision went off like a bomb in financial markets. The prospect of increased business investment and commercial activity from lower rates prompted a sharp rally on the Toronto Stock Exchange. The S&P/TSX composite index jumped 251.98 points to 14,560.42.

But the Canadian dollar plummeted, closing on exchange markets at 81.07 (U.S.) cents, down1.53 cents from its close on Tuesday.

“The dollar has tanked. There is a run to the U.S. dollar,” Rahim Madhavji of Knightsbridge Foreign Exchange wrote in a research note. The oil price slide is hammering the economy, Poloz said. He predicted growth will stumble to 1.5 per cent in the first half of this year. For 2015 as a whole, the bank now predicts growth of 2.1per cent, well below its previous forecast of 2.4 per cent.

While Poloz’s move may help the economy, in the short run it could increase pressure on Prime Minister Stephen Harper’s government to revise its economic approach. The strategy currently hinges on eliminating the budget deficit to open the way for $5 billion a year in new spending and tax breaks for families, particularly a controversial plan to let spouses split income for tax purposes. Only about 15 per cent of families would benefit from this $2-billion annual measure, and it has been sharply criticized as a waste of valuable financial resources.

Taking into account the new spending announcements by Harper in the fall, falling oil prices put Ottawa in danger of running another budget deficit in 2015 instead of meeting its claim that the books will be balanced this year, economists say.

Thrown off course by the oil shock, Finance Minister Joe Oliver took the rare step last week of rescheduling the 2015 budget announcement from the usual February-March time slot until April at the earliest.

“This rate cut shows that the Bank of Canada believes the Canadian economy is facing more trouble than the Conservatives are admitting,” NDP finance critic Nathan Cullen said.

“We need to make sure that the government’s priority is focused on creating growth and jobs for the middle class,” Liberal Leader Justin Trudeau told reporters.

Canadian Labour Congress economist Angella MacEwan said Poloz appears to have felt he had to move to stimulate the economy because Oliver had no plan to do so.

“The bank was listening to what the federal government was saying in response to what the bank saw as a huge impact on the Canadian economy and felt that they (the central bank) had to step in and take some action,” she told the Star.

The bank noted lower petroleum costs will have a different impact in different sections of the country. Economists have said the Ontario economy should pick up.

Poloz acknowledged lower borrowing costs may worsen Canada’s record level of household debt. But he said the need to stabilize the economy in the long run outweighed the risk of financial instability in the household sector.

Oliver said he doesn’t comment on Bank of Canada decisions but added in a statement: “As we’ve always said, Canada is not immune to the economic challenges and decisions made beyond our borders. That is why our government continues our focus on jobs and economic growth. Our plan is working, with one of the strongest job and growth records in the G7 group of countries.”

Poloz said the economy had been showing signs of growth before oil prices dived. “We are beginning to see the anticipated sequence of increased foreign demand, stronger exports, improved business confidence and investment and employment growth.”

Bank of Canada cuts key interest rate quarter-percentage-point- markets rally!

The Bank of Canada announced a surprise quarter-percentage-point cut to its key interest rate Wednesday – a move it calls “insurance” against the potentially destructive effects of the oil price collapse.

The reduction in the bank’s overnight rate to 0.75 per cent from 1 per cent – its first move since September, 2010 – comes as a precipitous drop in the price of crude slams Canada’s oil-dependent economy.

The oil shock will be “negative for growth and underlying inflation in Canada,” the bank warned in a statement.

Bank of Canada Governor Stephen Poloz is expected to explain his dramatic decision at an 11.15 a.m. news conference in Ottawa Wednesday.

The rate move, which few analysts anticipated, is an attempt by Mr. Poloz to shield highly indebted Canadian households from an oil-induced hit to their jobs and incomes – signs of which are already evident in Alberta.

The rate cut is a signal to private-sector banks to lower their own rates on mortgages and other loans.

It’s also likely to accelerate a slide in the Canadian dollar, now at roughly 83 cents (U.S.).

Cheaper crude, while good for the U.S. and global economies, is unequivocally bad for Canada.

The bank warned that lower oil prices would take a sizeable bite out of economic growth in 2015, delay a return to full capacity and hurt business investment – a trend that has already triggered mass layoffs and production cuts in Alberta’s oil patch.

But the effects could spread further, threatening financial stability as a result of possible losses to jobs and incomes, according to the central bank.

“The oil price shock increases both downside risks to the inflation profile and financial stability risks,” the bank acknowledged. “The Bank’s policy action is intended to provide insurance against these risks.”

The bank’s new forecast assumes a price of “around” $60 per barrel for Brent crude, more than $10 above where it is now. But the central bank said prices “over the medium term are likely to be higher” than $60.

As recently as June, oil was selling for $110 a barrel.

The bank also lowered its bank rate and the deposit rate by a quarter percentage point Wednesday, to 1 per cent and ½ per cent, respectively. And it removed any indication of which way rates might go next.

The bank’s decision coincides with a much more pessimistic economic forecast than the bank issued just three months ago.

Following the lead of most private-sector forecasters, the bank slashed its GDP growth forecast to 2.1 per cent this year (from 2.4 per cent), before rebounding to 2.4 per cent in 2016. The worst effects of the oil collapse will be felt in the first half of this year, when the bank expects annualized growth of 1.5 per cent, nearly a full percentage point lower than its October forecast.

The Canadian economy grew at an estimated rate of 2.4 per cent in 2014.

The bank said the economy won’t return to full capacity until the end of 2016, several months later than its previous estimate of the second half of next year. Among other things, the central bank pointed to significant “labour market slack.”

Crude’s effects on the economy will be broad and profound, the bank warned. Investment in the oil and gas sector will decline by as much as 30 per cent this year, while lower returns on energy exports will eat into Canadian incomes, wealth and household spending.

The bank also hinted at a possible spread to other parts of the country of a real estate slump already under way in Alberta. “The extent to which the downturn already evident in Alberta will spill over into other regions remains to be seen,” the bank pointed out in its monetary policy report.

“The ramifications of the oil-price shock for household imbalances will depend importantly on the impact of the shock on income and employment,” the bank added.

The bank also expressed growing angst about the impact that oil could have on inflation, which it said has been propped up by temporary effects, such as the “pass-through” effect of the lower Canadian dollar.

Consumer price increases, now running at roughly 2 per cent a year, are “starting to reflect the fall in oil prices,” the bank said.

The bank’s new forecast calls for overall inflation to fall well below its 2-per-cent target this year, averaging just 0.6 per cent. Core inflation, which strips out volatile food and energy prices, is expected to average 1.9 per cent in 2015.