The Bank of Canada signalled concern Thursday with the sharp and rapid rise of the dollar (FXCAU-I0.910.009–%) , saying the unprecedented gain in May risks snuffing out early signs of an economic recovery.
“In recent weeks, financial conditions and commodity prices have improved significantly, and consumer and business confidence have recovered modestly,” the central bank said Thursday. “If the unprecedentedly rapid rise in the Canadian dollar (which reflects a combination of higher commodity prices and generalized weakness in the U.S. currency) proves persistent, it could fully offset those factors.”
The Bank of Canada’s worry over the dollar’s ascent came in the statement explaining its latest interest-rate decision.
Governor Mark Carney left the benchmark lending rate at 0.25 per cent, the lowest it can go without roiling short-term money markets.
The decision to leave borrowing rates unchanged came as no surprise because the central bank said in April it would leave the overnight target at 0.25 per cent until the middle of next year, provided there isn’t surprise burst of inflation.
That can’t be said of the central bank’s remarks on the currency, a subject Mr. Carney has broached only rarely since taking the job.
The decision to use the interest rate decision to discuss the currency suggests policy makers have serious concerns about the currency’s 12 per cent rise since they last set interest rates on April 21.
Thursday’s remark could temper that gain, as traders assess the potential that Mr. Carney might intervene in foreign exchange markets in a bid to tether the loonie at a lower rate.
Currencies around the world are in considerable flux as investors shed U.S. dollars for reasons ranging from increased confidence that the global economy is rebounding to worries over the U.S. government’s widening deficit, which is on pace to reach 13 per cent of GDP.
The dollar’s rise in May was the most rapid since the end of Second World War, which was the beginning of the era of flexible exchange rates.
It has gained 10 per cent this year, and traded at 90.16 cents (U.S.) Thursday morning. The central bank’s comments came as Bank of Nova Scotia economists forecast the dollar would edge up to parity with its U.S. counterpart by the end of next year.
“ The economy is undergoing major restructuring in a number of sectors”
Aside from the currency, the Bank of Canada said recent economic indicators are “broadly consistent” with its overall outlook for the economic growth and inflation.
Canada’s gross domestic product contracted at an annual rate of 5.4 per cent in the first quarter, one of the weakest performances on record, but better than the 7.4 per cent collapse the central bank projected in it quarterly economic report in April.
Data on consumer prices are in line with the central bank’s outlook for inflation that’s running closer to an annual rate of 1 per cent than its target of 2 per cent.
As was the case in April, the Bank of Canada said there’s a “downside” risk to its inflation estimates.
“The economy is undergoing major restructuring in a number of sectors,” the central bank said. “The already significant output gap will continue to widen through the third quarter, putting downward pressure on inflation. The bank continues to expect that the global and Canadian recoveries will be more muted than usual.”