News & Updates

    The Morning Brief - 12.05.18

    Posted by Bruce Carson on Dec 5, 2018 8:58:42 AM


    Economy—The Bank of Canada and Interest Rates and the Effect of the Oil Price Crisis and Relevant Economic Data—Prime Minister Mulroney and Pipeline Leadership


    Bank of Canada, Interest Rates, Oil Price Crisis and Economic Data

    Yesterday, Kevin Carmichael wrote an article published in the National Post entitled “The Consensus on a December Hike is no Longer there.” It was almost a given after the rate hike in October which took the overnight lending rate to 1.75% that there would be another rate increase before the close of 2018.

    What seemed to solidify that view was the removal of the word “gradual” from the commentary coming from the Bank about future hikes. As Carmichael explains, it seemed like the Bank might be speeding up its interest rate increases to get back to what it considers some form of normalcy.

    The Bank indicated that in its view the economy had sufficiently strengthened to consider moving towards a neutral interest rate of between 2.5% and 3.5%. This is the sweet spot where borrowing costs are creating neither a headwind nor tailwind for the economy. This is a goal which Bank Governor Poloz has spoken of many times.

    Carmichael states that the Bank is counting on export trade and business investment to drive economic growth in the next couple of years but neither economic engine did well in the summer months. RBC Dominion Securities is quoted as saying “there are a few more clouds on the horizon.”

    On oil prices, Carmichael writes that the Bank should address the situation in Alberta today when making the rate announcement or tomorrow during Poloz’s speech in Toronto. He asks what will the Bank do now that there has been a limit placed on oil production for the next year?

    In his appearance before the Senate Banking Committee in October, just after the latest rate increase Poloz said, speaking of the oil industry “we would expect the industry to grow slower. We have to bear in mind that the economy will not go back to where it was in 2013.”

    In the last week of November, before the Alberta announcement dealing with oil production limits, Greg Quinn of Bloomberg wrote a column entitled “Cheap oil giving economists second thoughts about a hike in January.” He made the point that there would have to be a rebound in the price of heavy crude to warrant a rate increase.

    TD Bank is quoted as saying “we would expect the Bank of Canada to hold off on raising its policy interest rates until there is further stabilization in prices.” Quinn notes that all but one economist surveyed by Bloomberg believes a hike will take place in the first three months of 2019. Odds favouring a January hike have fallen to 75%.

    Brian DePratto of TD Bank said that on December 5, Poloz should “acknowledge” the strain on the energy industry and TD does see a hike in January. Doug Porter of BMO Capital Markets is quoted as saying that he would cancel his call for a January hike if oil discounts persist. He went on to say that the price spread is so extreme and the pain is acute in Alberta that he doesn’t think “they (Bank of Canada) can put blinders on and carry on as if nothing’s changed.”

    Quinn does point out that other economists believe there is a strong case for tightening in January even with weak oil prices. Perhaps the quandary of what to do is best summed up by RBC senior economist, Josh Nye when he says “the focus is going to remain on the national picture, but it’s a tough balancing act when some provinces are not doing well.”

    The latest economic data for the Bank to consider came at the end of November with release of GDP numbers for September and the third quarter. GDP for Q3 came in at 2.0% down from growth of 2.9% in Q2. Business investment spending as well as consumer or household spending fell, as well there was a drop in residential investment. For the first time in seven months of growth, real GDP edged down 0.1% in September based on lower output in all goods producing industries.

    It is predicted that growth in Q4 is to slow even more, coming in closer to 1% than 2%. Paul Ferley, assistant chief economist at RBC is quoted as saying that there should be a hike in Q1 of 2019, contingent on how the economy is doing.   

    It is predicted that in Q4 there will be lower oil prices and weaker new home sales.

    It would seem from all of the above and particularly  the oil production cut to be imposed in January by the Alberta government that the Bank of Canada will not touch interest rates today but allow time for the new arrangement to sort itself out before once again engaging in tightening. The economic uncertainty that Governor Poloz spoke of for months coming from the trade negotiations seems now to have been replaced by uncertainty coming from weak oil prices. So what looked like a sure thing for a hike in December when the last rate hike was announced in October has at least temporarily been placed on the shelf.

    It will be interesting to hear what the Governor has to say about Alberta’s plan to order the reduction of oil production and its potential effect on the Canadian economy in 2019 from the Bank’s perspective.

    Prime Minister Mulroney and Pipeline Leadership

    Yesterday in Toronto former Prime Minister Mulroney commented on the need for leadership if an oil pipeline is to be built. Speaking on the subject of political leadership is not new for Mulroney. On May 29, 2015 he was invited to speak at Blenheim Palace in England, during the tribute to Winston Churchill, marking the 50th anniversary of Churchill’s death.

    Mulroney spoke of transformative leadership defining it as “leadership that makes a significant difference in the life of a nation recognizing that political capital is acquired to be spent in great causes for one’s country.”

    Yesterday he said Ottawa has “abdicated the leadership of the national government” to interest groups when it comes to addressing the crisis in oil pipeline capacity.  His strategy would be to try to make First Nations, environmental groups and provincial premiers, stakeholders in a project to construct pipelines running east, west and south. The 175 billion barrels of oil in the ground in Canada should be benefiting Canadians across the country.

    If these groups refused to support him, Mulroney said he would move ahead anyway letting Canadians decide as he did with the Free Trade Agreement in 1988. They would have to decide if they supported me or support the other character “because you can only have one Prime Minister at a time.” He said “I’d take my lumps with the electorate and if this is properly laid out they’ll vote for this just as powerfully as they voted for free trade.”

    Eventually on big, nation building projects a real leader will spend political capital.

    To Come

    --today, Bank of Canada deals with interest rates

    --today, AFN Chiefs Assembly continues in Ottawa, concluding on Thursday

    --today, State Funeral for President George H.W. Bush

    --December 6, Bank of Canada Governor Poloz delivers a speech in Toronto

    --December 6, OPEC meeting in Vienna dealing with limiting output

    --December 6, international trade numbers for October to be released

    --December 7, job numbers for November to be released

    --December 7, First Ministers Meeting in Montreal—discussion of this in tomorrow’s Morning Brief--bc

    Topics: Morning Brief

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