January 7, 2016 / 1:30 PM / 2 years ago

UPDATE 2-Bank of Canada speech leaves markets doubting near-term rate cut

3 Min Read

(Adds remarks from news conference, market reaction)

By Randall Palmer and David Ljunggren

OTTAWA, Jan 7 (Reuters) - Bank of Canada Governor Stephen Poloz extolled the benefits of the Canadian dollar's weakness on Thursday, in a speech that left investors doubtful he would cut Canada's benchmark interest rate later this month.

Poloz insisted to reporters afterwards that he was not a cheerleader for a weaker dollar, but in his speech he did dwell at length on how the depreciation of the currency was "a natural part" of adjusting to cheap oil and commodities prices.

The currency, which hit a 12-year low in early trade, firmed following the speech as investors reduced their bets of a rate cut during 2016.

"People were looking at the speech as potentially laying the groundwork for a rate cut and he didn't send a clear signal," said Andrew Kelvin, senior rates strategist at TD Securities. "There's no smoking gun."

Markets are on edge because a year ago Poloz cut interest rates to counter a plunge in oil prices, giving no signal ahead of time. Another cut followed in July. The latest slump in oil prices fueled speculation he will ease again.

Poloz said oil and commodity markets had not seen another big price shock on the scale that afflicted them a year ago.

Nonetheless, economists said an eventual rate cut remained possible.

"It doesn't look as though the BoC is ready to ease further at present, though that certainly doesn't rule out a move later this year if oil continues to dive and the data remain weak," said Benjamin Reitzes, senior economist with Bank of Montreal.

Financial markets are pricing in a 21 percent chance of a cut on Jan. 20. Markets also see a two-thirds chance of a cut in July, down from over 80 percent before Poloz's speech.

Poloz said Canada's monetary policy would be independent of the Federal Reserve, which raised short-term U.S. interest rates in December. He declared that the Fed's rate hike was a welcome sign of recovery in the U.S. economy and that policy divergence between central banks should be expected.

He devoted about half his speech to the currency and its effect on the economy and inflation. He said that if the bank raised rates to prevent currency depreciation in response to low commodity prices, the adjustment process "would be made slower and more painful."

"It is not a coincidence that the Canadian dollar is about where it was back in 2003 and 2004; oil prices are also about where they were back then," he said.

Additional reporting by Fergal Smith in Toronto; Editing by Chizu Nomiyama

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