January 21, 2015 - CANADA - Canada just joined the easing party — and now the Canadian dollar is going crazy.
The Bank of Canada just announced that it cut its main interest rate to 0.75% from 1%, joining the trend of central banks around the world trending toward easier monetary policy.
Following the announcement, the Canadian dollar, also known as the loonie, weakened sharply against the US dollar, to nearly 1.24 against the dollar. Earlier on Wednesday, the loonie was at around 1.206 against the dollar.
In its announcement, the Bank of Canada said the move to cut rates followed the sharp drop in the price of oil.
Here's the chart of the loonie's rapid fall against the dollar.
Canada's announcement comes ahead of Thursday's European Central Bank meeting, at which the ECB is expected to announce a quantitative-easing program to fight deflation in the eurozone.
Reports on Wednesday morning from The Wall Street Journal and Bloomberg said the ECB is expected to announce a bond-buying program of €50 billion per month.
In an email following the Bank of Canada's decision, Sebastian Galy, currency strategist at Societe Generale, said he's targeting a level of 1.25 against the dollar for the loonie, "with a possible overshoot to 1.28."
So it looks like things could get crazier for the Canadian dollar, as it appears that for the second time in one week, a central bank took the market by surprise.
Here's the full statement from the Bank of Canada:
The Bank of Canada today announced that it is lowering its target for the overnight rate by one-quarter of one percentage point to 3/4 per cent. The Bank Rate is correspondingly 1 per cent and the deposit rate is 1/2 per cent. This decision is in response to the recent sharp drop in oil prices, which will be negative for growth and underlying inflation in Canada.
Inflation has remained close to the 2 per cent target in recent quarters. Core inflation has been temporarily boosted by sector-specific factors and the pass-through effects of the lower Canadian dollar, which are offsetting disinflationary pressures from slack in the economy and competition in the retail sector. Total CPI inflation is starting to reflect the fall in oil prices.
Oil’s sharp decline in the past six months is expected to boost global economic growth, especially in the United States, while widening the divergences among economies. Persistent headwinds from deleveraging and lingering uncertainty will influence the extent to which some oil-importing countries benefit from lower prices. The Bank’s base-case projection assumes oil prices around US$60 per barrel. Prices are currently lower but our belief is that prices over the medium term are likely to be higher.
The oil price shock is occurring against a backdrop of solid and more broadly-based growth in Canada in recent quarters. Outside the energy sector, we are beginning to see the anticipated sequence of increased foreign demand, stronger exports, improved business confidence and investment, and employment growth. However, there is considerable uncertainty about the speed with which this sequence will evolve and how it will be affected by the drop in oil prices.
Business investment in the energy-producing sector will decline. Canada’s weaker terms of trade will have an adverse impact on incomes and wealth, reducing domestic demand growth.
Although there is considerable uncertainty around the outlook, the Bank is projecting real GDP growth will slow to about 1 1/2 per cent and the output gap to widen in the first half of 2015.
The negative impact of lower oil prices will gradually be mitigated by a stronger U.S. economy, a weaker Canadian dollar, and the Bank’s monetary policy response. The Bank expects Canada’s economy to gradually strengthen in the second half of this year, with real GDP growth averaging 2.1 per cent in 2015 and 2.4 per cent in 2016. The economy is expected to return to full capacity around the end of 2016, a little later than was expected in October.
Weaker oil prices will pull down the inflation profile. Total CPI inflation is projected to be temporarily below the inflation-control range during 2015, moving back up to target the following year. Underlying inflation will ease in the near term but then return gradually to 2 per cent over the projection horizon.
The oil price shock increases both downside risks to the inflation profile and financial stability risks. The Bank’s policy action is intended to provide insurance against these risks, support the sectoral adjustment needed to strengthen investment and growth, and bring the Canadian economy back to full capacity and inflation to target within the projection horizon.