OTTAWA (Reuters) - When the Bank of Canada stuck its neck out with a completely unexpected interest rate cut in January in response to the oil price crash, markets and experts quickly questioned Governor Stephen Poloz’s credibility and wisdom.
Eleven months and an additional rate cut later, Canada has been in and come out of a recession while oil has only continued to drop.
Analysts now say it was the right move to make but that markets are still not totally comfortable with Poloz’s style.
“The lingering effect of it is the market and the analysts are still a little jumpy as to really trying to figure out where the bank is coming from at this point,” said BMO Capital Markets Chief Economist Doug Porter.
“And that’s effectively why the market’s got about a 50-50 chance of another move priced in, because it really has no idea.”
The Bank of Canada, unlike the U.S. Federal Reserve and many other central banks, does not vote but operates by consensus with no minutes.
This fueled questions after the January cut about how decisions are reached and whether Poloz was taking all views into account or acting as a lone cowboy.
The “Poloz reaction function” became a buzz phrase among frustrated traders trying to determine how Poloz would react to economic data and other metrics in setting monetary policy.
Poloz, for his part, said in an interview with Reuters last week that the bank’s governing council was a “consensus-driven team.”
For most rate announcements, he described a process where “the decision is easy, it just sort of happens.”
Amid the oil price crash, the bank took its best models and asked companies to put a magnitude on the effect of low prices.
“So even there it was not hard to narrow down the range of possibilities enough that we all felt comfortable,” he said.
It might require asking staff to do some more work or an analytical note, he said, but concluded: “The short answer is, we always reach a consensus.”
Criticism over Poloz’s leadership has persisted, especially following the rock-star status of his predecessor, Mark Carney, now governor of the Bank of England.
Capital Economics economist David Madani said that while criticism of the January rate cut had proved to be “wrong or unfair” it would be too far to say he has regained the complete trust of the markets.
“The communication has been a bit sloppy this year,” said Madani, citing confusion arising from Poloz’s decision to approach each policy statement with a clean slate.
“This is a bit confusing for people in financial markets because people in financial markets are comparing policy statements,” said Madani. “If you’re changing the policy statement, the wording, everything, willy-nilly that is stupid, that doesn’t make sense.”
Despite economists’ complaints over communication, by mid-year the markets seemed to have a better idea of what the Bank of Canada would do and were roughly split on whether it would cut for a second time in mid-July. It did.
“I think generally we have a better idea (than in January) but I wouldn’t say there’s a lot of comfort with what the reaction function is,” said BMO’s Porter.
Markets are currently pricing in an 18 percent likelihood of a cut in January and closer to 50 percent by mid-year. BOCWATCH
Poloz told Reuters he was cautiously optimistic about 2016, adding it was pointless to try and halt a slide in the Canadian dollar.
Toronto-Dominion Bank Deputy Chief Economist Derek Burleton said the central bank was more optimistic than the average market view on the planned transition to exports leading the recovery.
“That’s clearly a risk if we don’t get that rotation,” he said.
Reporting by Randall Palmer; Editing by Andrew Hay