Bank of Canada kills talk of early rate hike

Tue Oct 20, 2009 11:02am EDT
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By Randall Palmer

OTTAWA (Reuters) - The Bank of Canada extinguished speculation on Tuesday that it would follow Australia in hiking interest rates quickly, warning that favorable economic developments were being undermined by the strength of the Canadian dollar.

The bank kept its key overnight interest rate at a very low 0.25 percent and reiterated its intention to keep it there through mid-2010.

Far from giving any suggestion of an early exit from its extended low-rate strategy, which is designed to stimulate the economy, the bank said return to economic normalcy would be delayed.

It said the output gap, reflecting excess supply in the economy, would not be closed until the third quarter of 2011, three months later than it had earlier forecast. It also forecast that inflation would not return to its 2 percent target until third quarter 2011, also a three-month delay.

The bank's renewed commitment to keeping rates low and its forecast of delays in the economy's turnaround helped weaken the Canadian dollar to C$1.0470, or 95.51 U.S. cents, by mid-morning from C$1.0320, or 96.90 U.S. cents, just before the report.

"Financial markets have been starting to price in the possibility of a (rate) hike in March," Royal Bank of Canada assistant chief economist Paul Ferley said. "So I think reiterating that commitment is possibly an attempt to take some of the steam out of the Canadian dollar."

The Reserve Bank of Australia surprised markets on October 6 with a 25 basis-point rate hike, becoming the first of the Group of 20 central banks to tighten credit as the global financial crisis eases.

There had been speculation in markets that the Bank of Canada could also opt for an early rate rise due to a spate of encouraging economic data.   Continued...