CAD: Caution the Bank of Canada's watchword - TDE

Research Team at TD Economics, notes that as widely expected, the Bank of Canada kept its key policy interest rate unchanged at 0.5%, while upgrading their growth forecast relative to January forecasts, largely as a result of the 2016Q1 pop in growth.

Key Quotes

“The Canadian economy is now forecast to expand by 1.7% in 2016, a marked upgrade from January's outlook for 1.4% growth. The pace of expansion is expected to pick up further in 2017, reaching 2.3%, before slowing to 2.0% in 2018.

Relative to prior expectations, the Bank of Canada sees a shift in the drivers of growth: business investment has been revised down for both 2016 and 2017, while housing and government spending have been upwardly revised. Trade is expected to remain supportive of growth this year, however, it is now expected to drag on 2017 growth as a result of currency moves and a less favourable composition of global growth.

Inflation is expected to remain stubbornly below the bank's 2 per cent target, but return to the Bank's 2% target by the end of 2017 as the factors currently weighing it down, such as energy prices, dissipate. Core inflation, conversely, is expected to remain at or near the 2% mark over the next few years as exchange rate pass through to consumer prices is dampened by soft fundamental inflationary pressures. Indeed, the Bank sees the degree of economic slack as 'significant', and is present despite downgrades to the economic 'cruising speed', which the Bank now estimates to be around 1.5%. This lowered expectation for potential growth means that the output gap is expected to close slightly earlier than previously thought, reaching zero in the second half of 2017.

The Bank cited a number of risks to the outlook, both on the upside and downside. Stronger GDP growth in the U.S., or better momentum in exports are both seen as potential upsides. Conversely, more cautious consumer behaviour, a larger adjustment to low energy prices, and slower growth in emerging markets are all seen as potential economic headwinds.”