Fed tapering would delay rate hikes by BoC: Scotia

Tapering would hit the Canadian economy harder than the U.S. economy

By: James Langton
October 24, 2013 December 14, 2017
13:55

The Canadian economy will likely suffer more acutely than the U.S. does when the U.S. Federal Reserve finally starts tapering its quantitative easing policy, which may push rate hikes to late 2015, or beyond, says Scotia Economics in a new report.

While the Bank of Canada’s recent move to dampen its growth forecasts may be delaying rate hike forecasts, Scotia says that another important factor is the Fed’s tapering plan. The firm notes that the consensus opinion is that a Fed tapering decision will “give the Bank of Canada the green light to hike borrowing costs ahead of the Fed”. However, Scotia says that it believes that will not be the case. It argues that Fed tapering “would hit the Canadian economy harder than the U.S. economy, requiring prolonged monetary policy accommodation in Canada”.

It expects Fed tapering to hit Canada harder for several reasons. For one, the move will likely push up global fixed rates at a time when debt-laden Canadian households can’t afford it. “The U.S. might be able to afford higher fixed rates as it unleashes pent-up demand in the household sector, but Canada cannot,” it says.

Additionally, it suggests that tapering could attract capital to the U.S., raising the cost of company financing, and possibly weakening commodity prices, thereby hampering Canadian growth and investment. And, the improvement in U.S. economic fundamentals that’s required for tapering to take place “may well continue to fail to trickle over into Canada by virtue of the fact that Canada has lost so much export competitiveness over time,” it says.

Moreover, if Fed tapering leads to a weaker Canadian dollar, as expected, “it’s not at all clear that this would be unwelcome to the BoC as it expresses frustration over export growth,” it says.

“In all, we continue to forecast underperformance of Canadian economic growth relative to the US, and Fed tapering will not help in this regard,” it concludes. And, as a result, it suggests “both central banks [will] start hiking their policy rates by late 2015 or perhaps later.”