Election would kill chance of spring rate hike

A federal election this spring would remove any possibility of a Bank of Canada rate hike any time soon, economists at some of Canada's major banks said Wednesday.

On Tuesday, Finance Minister Jim Flaherty laid out the government's budget for the 2011 fiscal year. Opposition leaders were quick to say they won't support it, making it all but inevitable that the government will fall and Canada will soon see a federal election campaign.

Economists are divided on what an election campaign means for Canada's economy, but a consensus is already emerging that it all but eliminates the possibility of the Bank of Canada raising its benchmark interest rate from its current level of one per cent this spring.

"If a May or June vote is in the cards, that adds to a long list of reasons why most analysts have abandoned much of any notion of a spring hike," Scotiabank economists Derek Holt and Gorica Djeric said Wednesday. "We've stuck to our October call throughout it all, and that call has been reinforced of late."

After slashing it to a record low of effectively zero during the depths of the recession, Canada's central bank has held its target for the overnight rate steady at one per cent since September 2010.

The bank makes its next decision on interest rates on April 13. Meetings are generally scheduled every six weeks.

Scotia lists two main reasons it sees a rate hike unlikely at that meeting or any of the ones scheduled immediately following.

It's no longer clear whether fiscal policy will act as a drag on growth if election goodies are dangled about. But perhaps more importantly, the central bank generally dislikes doing anything during election campaigns. Over the last 20 years, only once has the central bank started tightening rates during an election campaign.

That was in 1997, Scotiabank notes, when the economy was rapidly healing from the economic "disaster" of the early 1990s. Some 734,000 jobs had been created in 1997-1998, so the bank felt compelled to step in and cool things down a bit due to inflationary fears.

Markets generally dislike the uncertainty that election campaigns create. And the bank of Canada likes to remain politically agnostic — two broad reasons a spring rate hike is likely no longer in the cards.

Other economists aren't quite as dovish as Scotiabank, but are nonetheless convinced there will be a rate hike later, rather than sooner.

Before Tuesday, CIBC was calling for the first of four rate hikes to come in the bank's policy meeting in May. But on Wednesday, it too moved that call later because of events in Ottawa. "The bank may be reluctant to use the April meeting to signal a May hike, given that April would come in an election," the bank's senior economist, Avery Shenfeld, said in a research note Wednesday. 

'There really is no urgency to hike just yet.'—BMO economist Benjamin Reitzes

Although strictly speaking they're not election related, Shenfeld added two more reasons for pessimism about rate hikes Wednesday. Continuing unrest in the oil-producing world is likely to keep the Canadian dollar at elevated levels. That's something the central bank can't discount in its decision to raise rates. "We had expected the Canadian dollar to be a few cents weaker by May, allowing the Bank of Canada to hike rates without fear of sending it to new heights," Shenfeld said.

The Canadian dollar was changing hands at 101.76 cents US on Wednesday. It has spent much of 2011 above parity.

And the soft inflation data coupled with strong employment gains in recent weeks likely means the Bank of Canada will be upwardly revising its GDP assumptions soon — possibly another indication that it will hold off on a rate hike until the summer, at least, he said.

"There really is no urgency to hike just yet, and that's why we have them waiting until July," BMO economist Benjamin Reitzes said. "But from a growth perspective, you can see that …the pressure will build on them."