Will the Bank of Canada cut interest rates this month? It’s increasingly likely, as Governor Stephen Poloz faces disappointing economic data and mounting evidence of a Canadian recession.
Markets have already priced the chance of a cut at 50%, as pundits and lenders revise their forecasts following grim quarterly numbers. Was the “one and done” stance taken after January’s surprise rate cut wishful thinking?
January’s cut: not enough?
When the BoC slashed their Overnight Lending Rate by a quarter of a per cent early in the year, it was expected it would be enough to counter the dropping price of oil, and economists continued to support the possibility of a rate hike in late 2015.
For consumers, the cut was effective - Canadians continue to spend and borrow at a historically low cost, and money has remained liquid among the banks.
At the time, Poloz stated the rate cut was a necessary form of insurance against the downturn - but oil’s fallout was supposed to be over by now. Q2 was hailed as the recovery period from 2015’s “atrocious” first quarter, when the economy shrank by 0.6%. However, the impact has not been “front-loaded” as expected - energy sector investment has been slashed along with mass layoffs, the reverberations of which are keenly felt in Alberta’s housing market and throughout Canada’s other economic drivers.
The makings of a recession
Economists are looking to Q2 data for clues on the BoC’s next move. Most telling will be whether the economy has contracted for a second quarter in a row, which is the technical symptom of a recession. The Bank of America has called for a downturn, with the Loonie dwindling to 77 cents USD by early 2016. So far, Canadian lenders TD, CIBC and Desjardins have backed the doom and gloom diagnosis.
The BoC’s own prediction called for stagnant economic performance - for that to happen, the numbers must report a 0.2% and 0.3% growth in May and June respectively.
Early-year forecasts called on non-energy sectors to pick up the slack, but that hasn’t been the case. Recent export numbers are the latest nail in the coffin, with a $13.6-billion trade deficit on the books so far for 2015, and a 0.6% drop in May. As Avery Shenfeld, chief economist at CIBC World Markets, stated, “The trade data were the first major indicator for May activity, and it ain’t lookin’ good. That’s one more chip on the side of our forecast for a rate cut by the Bank of Canada next week.”
Perhaps the only recession naysayer is the federal government; Finance Minister Joe Oliver believes it’s “too soon to tell”, and remains optimistic that Q2 numbers will deliver good news - and support the Conservative’s 2015 election promise of a budget surplus.
How will this impact your mortgage rate?
Despite the dire implications for Canada’s economy, this is potentially positive for borrowers as interest rates will be kept low for the longer term. A Bank of Canada rate cut is meant to lower the Prime rate offered by lenders, meaning variable mortgage-rate holders will see an immediate dip in their monthly payments - though given the bank’s holdout after the January cut, it’s not guaranteed how much room they’ll relent.
There’s also downward pressure on fixed mortgage rates, as Canadian bond yields remain in top demand. Investors, wary of the unfolding situations in Greece and China and encouraged by low inflation, are snapping up our “safe haven” bonds, and have pushed yields below the one per cent threshold, meaning lenders can continue to discount their fixed-rate products.
But what about household debt?
The BoC has rapidly changed its tune on this one; in June’s semi-annual Financial System Review, household debt levels were named as the top economic risk, as effects from oil would be “concentrated in the oil-producing regions”.
But, in one of Poloz’s most recent (and famously colourful) speeches, he indicated debt levels were now a back-burner issue, stating, “If the doctor says you need surgery to avoid death, the side effects don’t usually deter you.”
What does this mean for you?
With cheap debt likely available for the long-term, it’s tempting to max out your affordability on home and auto financing. The golden rules of borrowing still apply - don’t assume interest rates will stay this low forever, and build the chance of a rate rise into your budget to avoid sticker shock at renewal time.