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Wednesday, July 17, 2013

Bank of Canada warns Alberta flood, Quebec strike to hit economy

The Alberta flood and Quebec construction strike of recent weeks will have a “choppy” effect on the economy through 2013, the Bank of Canada warned Wednesday, while maintaining its more positive outlook for growth in the next two years.

But while the central bank, in its first monetary policy report under new Governor Stephen Poloz, made no change to its prior stance – keeping the overnight lending rate at 1 per cent, where it has been since September 2010 – it warned of “a somewhat more challenging external environment...than previously anticipated,” adopted a grimmer view of the global economy than its last outlook in April. The bank trimmed forecasts for the U.S., European, Chinese and global economies as a whole, blaming a declining rate of growth in China and other emerging economies, which has weighed on commodity prices.

The one bright spot is Japan, whose growth prospects the Bank of Canada upgraded on the heels of its more aggressively accommodating monetary and fiscal policy moves. Even then, growth in Japan, which faces long-term structural issues, including an aging population and high debt, is only expected to hit 1.9 per cent this year and come in lower than that in 2014 and 2015.

The latest forecast is a sober reminder that in the prolonged post-Great Recession era, the new normal for growth both in Canada and abroad remains sluggish by historical standards. The Bank of Canada affirmed that it has no plans to abandon its stimulative approach to the economy in the medium term, forecasting inflation would remain below the mid-way point of its target range of between 1 per cent and 3 per cent for the next two years, due in part to “persistent material excess capacity” in the economy.

Adding to that uncertainty is the impact of a wave of exceptional events in recent weeks, including flooding in Alberta and a Quebec construction strike. These will result in “greater volatility in economic indicators” this year, “which will complicate the analysis of underlying trends,” the bank said in its July Monetary Policy Report, released Wednesday.

The Alberta flooding “affected all sectors of the province’s economy, so the impact on real GDP growth is estimated to be substantial,” the bank said, adding the Quebec strike, which lasted from June 17 through early July, will likewise hinder the national economic output.

However, the bank expects output in the third quarter to make up for the lost activity in the second. As a result, it forecasts annualized growth in the second quarter will be an unusually anemic 1 per cent, followed by a muscular 3.8-per-cent bump in the third quarter as the lumpy impact of the situations in Alberta and Quebec work themselves out.

The central bank foresees Canadian economic growth hitting 2.7 per cent in each of the next two years largely from a recovering U.S. economy and strengthening business confidence.

But it cautioned four factors could play havoc with its outlook: a stronger-than-expected increase in U.S. private demand, which would drive up inflation here; contagion from the chronic European economic crisis to credit markets globally which could hit Canadian exports and economic activity; further declines in wobbly emerging markets, including China, which would weaken Canadian exports and hit commodity prices; and a more “disorderly” deterioration in the Canadian housing market than the soft landing many economists now foresee.

For now, the bank says the housing market is in a period of “constructive evolution” as Canadians save more and invest a declining amount as a proportion of GDP in housing than they have in recent years. The bank also trimmed its forecast fpr the Canadian dollar, anticipating it will hold to a valuation of around 96 cents (U.S.) in the next two years, down from its prior estimate of 98 cents.

Economists had been closely watching Mr. Poloz’s debut monetary policy report for signs of change from predecessor Mark Carney. Bank of Montreal chief economist Doug Porter noted that while Mr. Poloz “brings a slightly different style,” there was no real change to the bank’s view. He did note some wording changes from the bank’s previous reports, which clarified the bank’s outlook for tightening monetary policy is conditional on changes to the amount of slack in the economy, inflation levels and “imbalances” in the household sector.