Bank of Canada keeps rate-cut option alive, says C$ still high

OTTAWA, April 29 Tue Apr 29, 2014 5:49pm EDT

OTTAWA, April 29 (Reuters) - Bank of Canada Governor Stephen Poloz indicated on Tuesday that he remains open to the possibility of an interest rate cut and also said the Canadian dollar was still high in historical terms, despite a recent 10 percent depreciation.

Canada's central bank has held its main interest rate steady for 3-1/2 years and earlier this month once again upheld its "neutral" stance, suggesting its next move could be either a rate hike or a cut depending on how the economy unfolds.

"If the significant downside risks were to emerge, and had changed that balance of risk that we talked about before ... then you would have to talk about the possibility of having a lower interest rate in that situation," Poloz told lawmakers on the House of Commons finance committee when asked if a rate cut was still on the table.

The balance of risks he referred to are those identified by the bank in recent rate decisions: inflation could fall further below the bank's 2 percent target, which would necessitate a rate cut. This is offset by the risk that lower rates could exacerbate the near-record high level of household debt in relation to income.

One scenario that could result in easing monetary policy would be if the bank's forecast of an export recovery doesn't materialize, possibly due to a slower U.S. rebound, Poloz said.

"Then we would need to reevaluate that balance of risks with that new information. That's why I said ... that if something like that transpired then I can't be taking rate cuts off the table because I can't forecast everything."

Most economists still expect the bank's next move to be a rate hike but not until the third quarter of 2015.

Poloz said the weaker Canadian dollar versus the greenback was unlikely to be a deterrent to business investment, which the bank sees picking up after exports regain momentum and confidence improves.

Normally, a weaker currency makes it more expensive to import machinery and equipment needed for companies to expand their operations.

"On the margin, the answer to your question is, yes, a 10 percent decline in the dollar makes certain business machinery that people import more expensive. But the dollar remains, in a historical sense, quite high relative to where we've been, so relative to, say, five to 10 years ago, that equipment is quite a bargain compared to what it was when the Canadian dollar was much lower," he said.

"So I don't really think that that's going to take too much of a shine off of that investment story that we've laid out there."

The currency has been softening for the past year and fell more sharply since October when Poloz began sounding more dovish.

Poloz also repeated that rates are likely to remain lower for longer than they would have in the past. He said Canadian policy makers were willing to live with the risk that "low-for-long" could create asset bubbles because the alternative was worse.

"If we had not lowered interest rates and invited some of those risks, we would've had a much more severe recession, people's pension plans might have been hit pretty hard, all those kinds of things would've been very negative for our economy," he said. "So it is a risk, but one that you deem acceptable." (Reporting by Louise Egan, Randall Palmer and David Ljunggren in Ottawa; Alastair Sharp, Leah Schnurr, Cameron French and Solarina Ho in Toronto; Writing by Louise Egan; Editing by Jeffrey Hodgson and Ken Wills)

FILED UNDER: