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Will the Bank of Canada pause its interest rate increases?

Contrary to market sentiments of a few weeks ago, the general view now is that Mark Carney and his chums at the Bank of Canada will now pause in their objective to further normalize Canadian interest rates, to level that better reflect Canada’s economic “health”.  As a small open economy, with an 800 pound gorilla next door which appears to be heading back into the intensive care unit, we can ill afford interest rate differential in excess of 40-75 bps.

The Canadian dollar (the Loonie) is hovering near parity with the US dollar when most economists believe that it should trade 10% lower, around the 91/92 level.  Industrial product (the non-service part of the economy) is doing poorly, and there is still a substantial amount of slack in Canada’s economy.

Over the past 10 days the numbers for Canada have been strong but remain dismal, and had it not been for Canada’s housing market, commentators would be concerned about economic growth in the 4th quarter of 2010. 

  • Industrial product generated good numbers, up by 2%, but it remains that manufacturing in constant dollar is 12% below its 2007 peak, and 19% below its current dollar level.

  • Strong industrial performance was principally caused by the automobile sector, but at the same time vehicle sales in Canada are flat for August/September (down 4.8% in August and up 4% in September)

  • Factory sales rose in August, but remain very depressed from their 2007 level

  • TIC report shows that cash is again pouring into Canada (3rd highest month with $11 billion), aside from its location, is considered one of the few economies not considering debasing its currency (as are Australia and New Zealand). 

  • The Bank of Canada’s balance sheet is back to its pre-2007 size, with all quantitative easing “stimulus” fully drained out of the financial system (although it was relatively simple process since the banking system only required liquidity during the worse of the crisis).

So, today the consensus is that tomorrow the BoC will leave interest rates unchanged.  This should have “negative” implications for the CAD (which would be a good thing for Canadian exporters).

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