BOC State of Play:BOC Proved Its Data Dependency;Eyes Fin Mkts

By Yali N'Diaye

     OTTAWA (MNI) - The Bank of Canada Wednesday raised its overnight rate

target by 25 basis points to 1.0%, showing it did not need to wait until the

next policy announcement in October that would have provided an opportunity to

better explain a further tightening through the quarterly economic update and a

press conference.

     The strength of "recent economic data" was self explanatory, with no need

for a press conference or Monetary Policy Report.

     "Given the stronger-than-expected economic performance, Governing Council

judges that today's removal of some of the considerable monetary policy stimulus

in place is warranted," the BOC statement said, echoing what it had said in

July, when the BOC raised rates by 25 basis points.

     And to make observers look at the right data, it even specified Wednesday

it would particularly look at "the evolution of the economy's potential, and to

labor market conditions," pointing out that "some excess capacity" remains in

the labor market and wage pressures are "more subdued" than what it should be by

historical standards at this stage of the recovery.

     With the still heavily indebted households, the central bank reaffirmed

that it will pay attention to the sensitivity of the economy to higher interest

rates.

     This time around, however, the BOC felt the need to stress financial market

developments will also inform its decisions going forward, which it did not feel

compelled to underline in the July statement.

     "Future monetary policy decisions are not predetermined and will be guided

by incoming economic data and financial market developments as they inform the

outlook for inflation," the statement said.

     That could mean that in addition to higher borrowing costs, it might take

some time to assess to which extent the Canadian dollar appreciation will

persist and impact the inflation outlook.

     In Wednesday's statement, the BOC did highlight the appreciation of the

Canadian dollar, partly reflecting the stronger Canadian economy and partly

reflecting the weakening of the U.S. dollar amid tax and fiscal policy

uncertainty.

     Industrial prices were down 1.5% in July, recording their largest decline

since December 2014, with the exchange rate effect explaining a large part of

the decline.

     The Canadian dollar appreciated 4.6% against the U.S. dollar over the

month. Had the exchange rate remained constant, the industrial product price

index would have decreased just 0.4% instead of 1.5%.

     To which extent the trend will be passed on to retail prices down the road

remains to be seen.

     But the strengthening loonie could also challenge the BOC's scenario of a

growth rotation to rely more on exports.

     Statistics Canada reported Wednesday that while the goods trade deficit

narrowed to C$3.0 billion in July, exports dropped a further 4.9%, partly on

lower volumes, after a 5.0% fall in June.

     A cumulative two-month decrease of this magnitude had not been observed

since December 2008-January 2009.

     In particular, exports to the U.S. fell 3.2% after contracting 5.8% in

June, mainly on lower sales of cars and light trucks. Exports of aircraft to the

U.S. also fell 23.9%.

     Imports contracted by 6.0%, the largest decline since January 2009, with

most of it explained by a price effect: import prices were down 3.8% and volumes

down 2.3%.

     With the yet-to-be determined impact on U.S. growth of Hurricane Harvey and

potentially Irma heading to Florida, the export outlook is also at risk, at

least in the short term.

     At the time the BOC made its projections for exports in July, the loonie

was assumed - by convention - to remain close to its then recent average of 76

cents. It is now around 82 cents.

     While the BOC will keep an eye on financial markets and the financial

conditions tightening they could mean for Canada, it would likely take

significant "developments" to affect the central bank's confidence in its view

that Canada's growth "is becoming more broadly-based and self-sustaining,"

especially since the BOC still considers that currently monetary stimulus

remains "considerable."

     Besides, the BOC attributed the cooling of the housing market to tighter

housing and tax policies rather than higher mortgage rates.

     Still, financial conditions could slow the pace of tightening.

--MNI Ottawa Bureau; +1 613 869-0916; email: yali.ndiaye@marketnews.com

[TOPICS: M$C$$$]