Bank of Canada chief Stephen Poloz throws markets another curve

GREG QUINN (BLOOMBERG) - Bank of Canada Governor Stephen Poloz has done it again.

After shocking markets with an interest rate cut last month, Poloz surprised traders with the tone of his comments Tuesday at a speech in London, Ontario, when he suggested the January reduction may be enough for now.

“The downside risk insurance from the interest rate cut buys us some time to see how the economy actually responds,” Poloz said in a speech at Western University in London, Ontario, where he earned his doctoral degree.

Wagers on a rate cut at the Bank of Canada’s March 4 decision meeting halved after Poloz’s comments, according to overnight index swaps, which showed traders assigning about a 40 per cent chance, from 80 per cent prior to the speech. Canada’s currency reversed losses, strengthening 0.6 per cent to C$1.2491 per U.S. dollar at 5 p.m. in Toronto.

The extent of the oil price shock itself remains uncertain, said Poloz, who cut rates to 0.75 per cent from 1 per cent on Jan. 21, when he first cited the need to provide “insurance” against damage to the economy from lower oil prices.

Policy makers are still studying “how net negative” the drop in oil prices is, Poloz said in an audience question-and- answer period. At a press conference, he said the idea of the impact of the rate cut as insurance is not “a very precise business.”

“It gives an indication that the firm pricing of a rate cut in March needs to be revisited,” David Tulk, chief Canada macro-strategist at TD Securities in Toronto, said in a telephone interview. “We were really comfortable with the idea there would be a rate cut prior to him talking. We now have a little less conviction.”

To be sure, investors are still betting the next move will be a cut even as the timing has been pushed back. Swaps trading suggest a full quarter-per centage point rate cut has been priced in by the middle of the year.

Poloz today said his rate cut was in response to a broad economic shock, with an oil price drop of more than 50 per cent since June amplifying the two main risks to the economy of high household indebtedness and inflation remaining below target.

Poloz said the negative effects of falling oil prices have been immediate, while longer-term benefits of falling energy costs will be more gradual in arriving.

“The negative effects of lower oil prices hit the economy right away,” he said. “The various positives — more exports because of a stronger U.S. economy and a lower dollar, and more consumption spending as households spend less on fuel — will arrive only gradually, and are of uncertain size.”

In a response to audience questions following the speech, Poloz said the central bank still has policy room to respond to any worsening of the country’s economic outlook.

TD’s Tulk said inflation and output data to be released between now and the central bank’s March 4 meeting will be “crucially important.” Statistics Canada reports consumer price data on Feb. 26 and gross domestic product numbers for the fourth-quarter on March 3.

Even with his grim outlook for energy, Poloz has been optimistic about the prospect for non-energy sectors. The Bank of Canada projected last month those industries will regain their footing as the “dominant trend” for the economy, spurred on by a weaker dollar and lower costs.


The bank’s January forecast assumes benchmark crude prices at $60 a barrel, down from an October assumption of $85 barrel. Poloz today said that oil prices have been averaging at around the central bank’s $60 assumption.

The January rate cut was in response to years of disappointing exports and the drop in oil prices, Poloz said when asked if he was targeting a weaker currency. “I reject that analysis,” he said, adding the currency and oil prices often move in tandem.

Canada’s economy has begun the long process of switching from cutbacks to the creation of new companies and hiring needed to meet rising demand, Poloz said. The level of slack in the labor market still suggests there are several years of recovery before full output is restored, he told reporters after the speech.