Bank of Canada sticks to low interest rates

Central bank says again that, depending on inflation, borrowing costs will hold at record lows until middle of year

The Bank of Canada kept its benchmark lending rate at a record low 0.25 per cent Tuesday, and reasserted a plan to keep it there through the middle of the year depending on the outlook for inflation, saying slack remains in the economy and that the global recovery still depends on government spending and low interest rates.

“Conditional on the outlook for inflation, the target overnight rate can be expected to remain at its current level until the end of the second quarter of 2010,” Governor Mark Carney and his rate-setting panel said in the statement accompanying their decision, echoing the wording in their December statement.

The bank repeated that policy makers see inflation returning to their 2 per cent target in the second half of 2011 and risks to that projection “are tilted slightly to the downside,” a reminder to markets that unless this changes policy makers are unlikely to speed up a return to higher rates. The bank also extended its schedule of term purchase and resale agreements, a mechanism designed to help the overnight rate achieve its target level, with the longest maturities coinciding with July, another sign that it's unlikely they'll tighten before then.

While the central bank said the outlook for global growth through the next two years is “somewhat stronger” than policy makers projected in an October forecast that they'll update on Thursday, the global recovery that's under way “continues to depend on exceptional monetary and fiscal stimulus, as well as extraordinary measures taken to support financial systems.”

The central bank tweaked its growth forecast slightly, saying the Canadian economy will expand by 2.9 per cent this year and 3.5 per cent in 2011 after shrinking by 2.5 per cent last year. In October the bank said the economy would grow 3 per cent this year and 3.3 per cent in 2011, after contracting 2.4 per cent in 2009.

Policy makers also said Canada's economy operated about 3.25 per cent below its production capacity between October and December as “considerable excess supply remains,” and repeated that it will return to full tilt in the third quarter of 2011.

Mr. Carney and his deputies largely echoed language from their December statement on the strong Canadian dollar's effect on exporters, saying the loonie's “persistent strength” combined with “the low absolute level of U.S. demand” continue to act as “significant drags on economic activity in Canada.”

Domestic demand is driving the economic recovery, the bank said, and the private sector “should become the sole driver of domestic demand growth in 2011.” So far, the economic recovery has relied heavily on fiscal stimulus spending that's allowed Canadian companies to start hiring again.

The central bank said nothing in its statement about the hot housing market, where some observers continue to warn low interest rates might be fuelling a new bubble.

On Thursday, the bank will release a full quarterly update of its growth and inflation forecasts. Policy makers' next interest-rate decision is scheduled for March 2.