Vanguard Sees Bank of Canada Following Fed Higher This Year

2017-01-17 10:07:19

Vanguard Sees Bank of Canada Following Fed Higher This Year

By Allison McNeely, Bloomberg News

Canada’s economy is in better shape than many analysts think and will require an interest-rate increase by the end of the year, according to Vanguard Group Inc., the world’s second-biggest money manager.

Vanguard’s call bucks the consensus view that the Bank of Canada won’t raise its key interest rate from 0.5 percent until the second quarter of 2018, according to 16 analysts surveyed by Bloomberg. Stephen Poloz, the central bank governor, delivers the bank’s next rate announcement with an assessment of the economy on Wednesday.

“Our contention has been and remains that the U.S. economy and the Canadian economy would remain resilient, even in the face of the ferocious commodity sell-off and even with the froth in the housing market,” said Joseph Davis, head of investment strategy and global chief economist at the Malvern, Pennsylvania-based firm. “I think the recent data toward the end of 2016 only bore that out.”

Canada’s commodities-reliant economy has muddled through a two-year slump, buffeted by a downturn in oil prices, a housing boom which has recently cooled, record levels of household debt, and sluggish exports. However, better-than-expected trade and jobs data released Jan. 6 suggest that the world’s 10th biggest economy may have turned a corner.

“I think it’s appropriate to have modestly higher interest rates,” said Davis in an interview at Vanguard’s Toronto office. He forecasts the yield on the Canada 10-year government bond will rise to 2 percent over the next year from about 1.7 percent now.

The U.S. Federal Reserve has a case to raise rates in March and June, which would pave the way for Poloz to follow with a 25-basis-point rise later this year, Davis said.

Output Gap

Only two other firms see rate hikes this year. Moody’s Economy.com forecasts a 25 basis-point increase in the third and fourth quarters and Deutsche Bank AG calls for a hike in the fourth quarter. Futures traders see a 33 percent probability that the Bank of Canada will raise rates in October or December.

“Canada continues to have a sizable output gap,” Benjamin Reitzes, senior economist at Bank of Montreal, said in a note to clients on Friday. Poloz will likely reinforce the divergence between the Canadian and U.S. economies in the rate statement and monetary policy report.

While the anti-trade rhetoric of U.S. President-elect Donald Trump and upcoming elections in Europe are concerning for Canada and globally, Davis said he doesn’t see the introduction of broad-based tariffs around the world.

“I think the likelihood of a significant retracement or retrenchment from the increasing global trade is going to be much tougher to engineer, even if that is the intent, just given how integrated global supply chains are,” Davis said. “That clearly would be a negative for the global economy.”

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