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Loonie Soars After Bank of Canada Keeps Policy Steady, Abstains From Rate Cut

Don Curren January 20, 2021

The Bank of Canada this morning renewed its commitment to keeping monetary policy extremely stimulative as the economy continues to struggle with COVID-19, but abstained from making the “micro-cut” to interest rates that some had expected, triggering a substantial rally by the Canadian dollar after the release of its monetary policy statement and report.

The Canadian currency, which had retreated somewhat in recent sessions against the resurgent US dollar, rallied by about 0.7%% after the release and resumed its probing earlier in the month of highs not seen since early 2018.

The Bank in its first policy statement of the year that it said it is “is maintaining its extraordinary forward guidance, reinforced and supplemented by its quantitative easing (QE) program, which continues at its current pace of at least $4 billion per week.”

“In view of the weakness of near-term growth and the protracted nature of the recovery, the Canadian economy will continue to require extraordinary monetary policy support,” the statement said.

It said the Bank’s policymaking Governing Council will hold the policy interest rate at the effective lower bound until economic slack is absorbed so that the 2% inflation target is sustainably achieved, which it doesn’t expect until into 2023.

“To reinforce this commitment and keep interest rates low across the yield curve, the Bank will continue its QE program until the recovery is well underway.  As the Governing Council gains confidence in the strength of the recovery, the pace of net purchases of Government of Canada bonds will be adjusted as required,” the statement said.

The Bank acknowledged that effective vaccines against the novel coronavirus are arriving ahead of its expected timing of 2022, improving the outlook for this year. “The earlier-than anticipated arrival of effective vaccines will save lives and livelihoods, and has reduced uncertainty from extreme levels. Nevertheless, uncertainty is still elevated, and the outlook remains highly conditional on the path of the virus and the timeline for the effective rollout of vaccines,” it said.

The Bank said Canada’s economy “had strong momentum through to late 2020, but the resurgence of cases and the reintroduction of lockdown measures are a serious setback.”

“Growth in the first quarter of 2021 is now expected to be negative. Assuming restrictions are lifted later in the first quarter, the Bank expects a strong second-quarter rebound,” it said.

After a decline in real GDP of 5.5% in 2020, the Bank projects the economy will grow by 4% in 2021, almost 5% in 2022, and around 2.5% in 2023.

The Bank acknowledged the strength in the Canadian dollar, but recognized that it was in large part a reflection of the pervasive weakness in the greenback and strength in commodities, and the statement didn’t seem to convey a great concern about the currency’s levels.

It also said it expects inflation to remain subdued. “Excess supply is expected to weigh on inflation throughout the projection period. As it is absorbed, inflation is expected to return sustainably to the 2% target in 2023,” the statement said.

Earlier Wednesday morning, Statistics Canada reported the all-items Consumer Price Index (CPI) rose at a slower pace in December (+0.7%) than in November (+1%) on a year-over-year, unadjusted basis. Economists had expected another 1% increase in December.

The average of the Bank of Canada’s three preferred measures of core inflation averaged 1.6% in December, down from 1.7% in November

Don Curren
Market Strategist and Content Editor