September 20, 2016 / 4:56 PM / a year ago

UPDATE 3-Canada's rates to stay low, businesses should adjust -central bank

4 Min Read

(Adds comment from news conference, updates market reaction)

By Leah Schnurr

QUEBEC CITY, Quebec, Sept 20 (Reuters) - Canadian interest rates will stay low for longer as the economy faces strong headwinds and business investment is weaker than expected, but government spending on infrastructure will help growth, Bank of Canada Governor Stephen Poloz said on Tuesday.

In a speech suggesting the central bank will remain on the sidelines even as the economy struggles to gain traction, Poloz said corporations need to adjust their expectations for return on investment given the low interest rate environment.

"There is no smoking gun to suggest that the bank is ready to provide more stimulus here. They acknowledge that there are significant headwinds that require in exchange very stimulative monetary policy," David Tulk, chief Canada macro strategist at TD Securities, said just after the speech.

"But it's more just of the view that this is the environment we are sitting in as opposed to saying we need to do something about it."

Canada's economy has seen see-saw growth this year due to slumping oil prices and oil production disruptions due to wildfires in the energy heartland of Alberta. Non-energy exports have not taken up the slack despite a weaker currency that should make exports more competitive.

But the central bank, which cut rates twice last year, believes improving demand from the United States, Canada's biggest trading partner, will boost growth.

"In the second quarter, the U.S. economy did underperform, and it was a lot of investment that was lower and also housing. So these are two really important areas for Canada's exports. So that offers a certain amount of explanation and we think the U.S. economy is seeing a recovery," Poloz said at a news conference following a speech to Quebec economists.

The central bank is counting on a rebound in growth in the third quarter as oil production comes back online after the wildfires. The economy shrank in the second quarter due to the lost oil production in northern Alberta.

The Canadian currency strengthened against the U.S. dollar after Poloz's speech and news conference, trading at C$1.3201. It was C$1.3232 before the event.

Poloz said the economy continues to be buffeted by strong headwinds and needs stimulative monetary policy to counteract them and move closer to full capacity, but he put the onus on business and government to spark growth.

Canada's Liberal government, which came to power last November, expects to run a budget deficit for the 2016-2017 fiscal year as it spends on infrastructure and provides a tax break for families in a bid to stimulate the economy.

Poloz said business investment has been weaker than expected because some firms aren't taking the low rate environment into account when deciding if an investment is worthwhile, and he urged them to adjust their expectations.

While companies are uncertain about future demand, they should not expect the kind of returns they could get before the financial crisis, he said.

"My response has been to say that in the current and prospective environment, 4 percent will probably turn out to be a pretty good return," Poloz said. (Additional reporting by Andrea Hopkins and David Ljunggren in Ottawa; Editing by Paul Simao)

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