February 24, 2011 / 4:07 PM / in 7 years

Canada seen back on rate-hike path in May

TORONTO (Reuters) - The Bank of Canada’s first interest rate hike of 2011 is widely expected in May as a pickup in the country’s resource-rich economy offsets the drag of a strong currency and risk from Libya’s revolt and other global events.

<p>Bank of Canada Governor Mark Carney leaves his office in Ottawa January 19, 2011. REUTERS/Chris Wattie</p>

The central bank is expected to raise its key rate to 1.25 percent on May 31 from 1 percent after holding it steady at its March 1 and April 12 policy-announcement dates, according to the median forecast of a Reuters poll of economists and strategists released on Thursday.

“There are certainly signs that the U.S. is doing a bit better, so we think Canada is going to get a dividend from that early in 2011,” said Peter Buchanan, senior economist at CIBC in Toronto.

“The (central) bank does take a forward-looking view. ... They do think they have to ward off the potential threat of inflation, not one in the next few months mind you, but over the next year or two.”

The poll showed all 39 forecasters expect the bank to stand pat on rates at its March 1 policy-setting date, giving a 90 percent median probability that the key policy rate will stay at 1 percent. That is still well above the zero to 0.25 percent target range for the U.S. federal funds rate.

But 24 of 39 forecasters, more than 60 percent, expect Canadian interest rates to rise by the end of the first half.

The results were similar to a recent Reuters poll of Canada’s 12 primary securities dealers.

The Bank of Canada, jumping ahead of its Group of Seven peers, began raising rates from a record low 0.25 percent last June. It halted the campaign in September after three increases on concern about the durability of the U.S. economic recovery and debt troubles in Europe.

Lingering concerns about growth in developed economies, combined with the shock of recent revolts in North Africa, are expected to keep the central bank on the sidelines for now.

Optimism about the domestic economic outlook has increased, however, helped by data such as December’s trade report. The report showed soaring exports of oil and other energy products tipped Canada’s trade balance into surplus after nine months of deficits.

While surging exports suggest strong economic growth in the fourth quarter and improving momentum, the tame inflation outlook will allow the Bank of Canada to move cautiously, said Rob Carnell, chief international economist at ING.

“A rate hike at the May meeting, sitting nicely between the release of U.S. and Canadian (first-quarter) GDP reports in April/May, and the likely end to the Fed’s (quantitative easing) policy in June looks appropriate,” he said.

Canada’s annual inflation rate slipped to a relatively tame 2.3 percent in January as a strong currency helped it buck a global trend that has seen several major nations struggle to control rising prices.

Still, with the economy recovering and food and energy prices on the rise globally, forecasters said the Bank of Canada will not want to keep rates near record lows for much longer.

“Inflation is the major theme in FX markets this year, with most central banks forced to raise rates by year-end. The Canadian economy is strong enough to shoulder higher rates without a materially negative impact on exports and growth,” said Michael Woolfolk, senior currency strategist at BNY Mellon in New York.

The median view of the poll shows forecasters expect the Bank of Canada to raise rates by another 25 basis points on September 7 and double rates from current levels to 2 percent by year-end. The key policy rate is seen reaching 3 percent by the end of 2012.

“While they will step on the brakes, it’s going to be a gradual push on the pedal, rather than abrupt deceleration,” CIBC’s Buchanan said.

Polling by Bangalore Polling Unit; Editing by Peter Galloway

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