Bank of Canada Cuts to 3%

This morning, the Bank of Canada lowered its key target interest rate from 3.5% to 3%. This welcome move was widely predicted. Perhaps more interestingly, the Bank stated that “some further monetary stimulus will likely be required to achieve the inflation target over the medium term.”

Since December, the Bank has begun following the advice that the labour movement provided throughout 2007. Indeed, today’s release pointed to “the cumulative reduction in the target for the overnight rate of 150 basis points since December.”

But it is important to put this figure in perspective. The Bank strangely raised its rate from 4.25% to 4.5% in July. Therefore, the net reduction over the past year has been only 1.25% (or 125 basis points, in Bank-speak).

Meanwhile, the US Federal Reserve cut its target rate more than twice as much: by 3% (or 300 basis points) from 5.25% to 2.25%. In other words, American interest rates have gone from being a full percentage-point higher than Canadian interest rates to being almost a percentage-point lower.

This reversal of the interest-rate differential partly explains why international financiers have been so keen to hold loonies instead of greenbacks. As a result, the exchange rate has remained at parity despite the fact that economic fundamentals warrant a lower Canadian dollar. To correct this financial imbalance, the Bank of Canada should implement today’s suggestion of further interest-rate reductions.

That said, there is legitimate doubt as to how quickly lower central bank rates will translate into lower borrowing costs for businesses and consumers. Clearly, monetary stimulus alone will not be enough to safeguard Canada’s economy.

UPDATE (April 23): The chartered banks eventually matched the Bank of Canada’s cut.

5 comments

  • It is a growing concern amongst many Canadian economists that the doom and gloom south of the border is finally starting to make its way north. The TD bank report last week regardless of the labour process involved with its production, was a clear indicator of this worry.

    We need to have monetary and some targeted fiscal spending to occur now, to help fend of these waves of doom. It like building the dykes when you know the flood waters are coming. We have some good walls in place, however we do have weak points that need to be accommodated. Manufacturing and forestry has received the brunt of the storm so far. With some targeted fiscal spending within these sectors we could see some reduction in the jobs losses and an easier transition towards helping these markets rebound. Forestry for example is in total meltdown and needs some serious help to maintain the core of these many communities that are forestry dependent.

    A mix of appropriate monetary policy and some targeted fiscal spending could go a long way in preventing unnecessary damage. Just like the infrastructure for the public some key spending within these industries could help secure and build a lasting future that will generate prosperity. Forestry needs help transforming to higher value adding and sustainability, auto needs some help attracting key investment for long term grow.

    We are a long ways off yet from the high water mark and the damage we could see from the building flood waters south of the border. We need action now! Not after the fact. I am glad we saw another .5 rate decline, however monetary policy alone will not be enough.

    The fiscal spending as called upon by a growing group of economists is quite targeted and therefore should be an effective and cost effective way of helping minimize the impending threats when the come crashing upon us- and they will, we have a majority of our exports heading south square into face of this swirling disaster.

    I don’t understand why many neocon economists view domestic spending as some kind of safe guard to leverage ourselves upon. There are limits to credit, no bigger lesson to that than what is happening south of here, I don’t see the life boat that they do. Is it my imagination or is there something I am missing on the domestic economy somehow carrying us through the storm as many keep reiterating.

    paul.t

  • Indeed, a positive feature of today’s release was that it distanced the Bank from the notion that current domestic spending will carry us through the storm: “buoyant growth in domestic demand, supported by high employment levels and improved terms of trade, has been substantially offset by the fall in net exports.”

  • As I have pined on this blog before, it seems as though the bnaks are feeling some heat for not passing the rate reductions on to consumers. The spread between the “trend setting ” rate and the average lending rate by commercial brokers, is windening. I have been trying to find some data and I am sure there is a data table at statcan somewhere. Anybody have a source for this? It would be an interesting comparison to kee under the microscope. Is it really a about credit shortfalls, or is ot about paying for those bad investments through increased mortgage costs. I guess its not all just a paper and pencil exercise.

    Hard to say without the data in front of me.

    I wonder though what is going on behind those curtains, what will the next act bring, more money out of the pockets of the working person, undoubtedly to those that trade and speculate 24/7, unregulated, without borders and, unconstrained morality.

    small rant

    paul

  • sorry i meant to post this link, at least Carney came out and pointed it out to the folk.

  • J. P. Morgan indicates that the spread between the Bank of Canada’s rate and Canadian mortgage rates rose from about 2% last year to more than 3% this year.

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