OTTAWA (Reuters) - Soaring oil prices will push Canada’s inflation to an above-target peak of 4.3 percent early next year, but the commodity boom brings more good news than bad to the oil-exporting economy, the Bank of Canada said on Thursday.
The central bank said income from Canada’s hefty exports of oil and other commodities will help revive the economy after an unexpected first-quarter contraction. It expects 0.8 percent growth in the second quarter, up from a previous forecast of 0.3 percent.
“Growth in Canada is going to pick up through the balance of this year, accelerate in 2009 and into 2010,” Bank of Canada Governor Mark Carney told a news conference announcing the bank’s revised forecasts.
“So we’re starting from a slower starting point, but there is an important return to growth.”
The bank, which on Tuesday left interest rates on hold at 3 percent, reaffirmed its resolve to stand pat on interest rates even though inflation will briefly climb well above its 1-3 percent target range to hit a five-year high.
The bank said expects the rise in inflation to be short-lived, and it sees no risk that expectations on prices are becoming unhinged.
It said core inflation, which excludes gasoline and other volatile items and is considered the best predictor of future inflation, should stay below 2 percent through 2009.
Carney said high energy prices did not only bring prosperity to the oil-producing provinces of western Canada, but also boosts wages and brings benefits to other sectors.
“That puts us, in the industrialized countries, in very rare company,” he said.
But some economists saw that as a positive spin on a tough situation.
“They see inflation going back to 2.9 percent by the second quarter (of 2009) and that’s probably an optimistic view of things,” said Benny Tal, senior economist at CIBC Capital Markets.
John Clinkard, chief economist at Deutsche Bank Canada, expects the bank to hike interest rates in the fourth quarter because of the inflation pressures.
Carney said Canadian financial markets have broadly recovered from last year’s credit crunch, even though borrowing costs remain slightly above pre-crisis levels.
“Things have returned to what I would call ‘the new normal’,” he told reporters.
Asked if possible financial difficulties at U.S. mortgage lenders Freddie Mac and Fannie Mae would pose a threat in Canada, Carney said no, noting that Canadian banks were well-capitalized and sufficiently transparent.
“We do not see concentration of exposures that are material for our institutions,” he said.
The bank sees 2008 growth at 1.0 percent, down from an April projection of 1.4 percent. But it pinned the downgrade almost entirely on the first quarter, where the economy contracted by 0.3 percent.
Unexpected strength in the U.S. economy in the first part of this year prompted the bank to raise its 2008 forecast for U.S. economic growth to 1.6 percent from 1.0 percent.
But the bank cautioned that stubborn weakness in the U.S. economy, turbulence in global financial markets and surging prices for commodities, especially energy, could present risks to its inflation and growth projections.
The Canadian dollar, which the bank still assumes will average 98 U.S. cents, would normally have risen more in line with commodity prices, but appears to have been weighed down by concerns about the U.S. economic outlook, the bank said.
Additional reporting by Treasury team in Ottawa, Toronto; editing by Janet Guttsman