MNI BOC ANALYSIS: CPI, Retail Data Don't Write Off July Hike

By Yali N'Diaye

     OTTAWA (MNI) - While both inflation and retail sales data published Friday

came in below analysts' expectations, they did not necessarily take a July rate

hike off the table, especially given that temporary or special factors were at

play.

     The overall background has made the Bank of Canada increasingly confident

it can proceed with another rate hike, although the possibility of a September

move instead is higher.

     In its May 30 policy statement, the BOC had dropped the reference to

"cautious" and instead opted for a "gradual" approach, reflecting its growing

confidence.

     "Developments since April further reinforce Governing Council's view that

higher interest rates will be warranted to keep inflation near target," the

statement said. "Governing Council will take a gradual approach to policy

adjustments," with eyes on the evolution of economic capacity and the economy's

sensitivity to interest rates.

--BELOW EXPECTED INFLATION

     Statistics Canada reported Friday that inflation rose at a steady 12-month

pace of 2.2% in May.

     While analysts in a MNI survey had expected a 2.6% increase, total

inflation remained above the 2.0% mid-range target.

     Even as total inflation was below expected in May, core measures continued

to hover around 2.0%, at 1.9% in May

--DISAPPOINTING RETAIL SALES

     On Friday, Statistics Canada also reported that retail sales contracted

1.2% in April, while analysts in a MNI survey had expected sales to be flat.

     However, the central bank will likely not panic given that a 4.3% drop in

auto sales were largely responsible. Still, core sales excluding autos edged

down 0.1%, while analysts had expected a 0.4% increase.

     Declines were widespread across 8 of 11 subsectors and six provinces.

     That being said, the bad weather played a role in April's outcome.

"Inclement weather in many parts of Canada may have contributed to the overall

decline in April," the agency said.

     Besides, the BOC has been anticipating a declining contribution from

household consumption to growth, as business investment and exports strengthen

according to its scenario.

     Therefore, disappointing sales in April might not prevent a July hike

--HIGHER CAPACITY UTILIZATION

     The data dependent BOC is also monitoring the economy's sensitivity to

interest rates and the evolution of capacity.

     On both fronts, the most recent data leave the window open for a July

tightening.

     The industrial capacity utilization rate rose 0.5 percentage points to

86.1% in the first quarter 2018, its highest level since the first quarter 2006.

This was the seventh quarterly increase, the longest stretch since the third

quarter 2009 through the first quarter of 2011.

     In the manufacturing sector, the capacity utilization rate increased 0.4

points to 86.1%, the highest level since the fourth quarter 2000.

     Outgoing Deputy Governor Sylvan Leduc also pointed out in a May 31 speech

that "many of our exporters are already operating at full capacity."

--SLOWING CONSUMER CREDIT

     Meanwhile, when it comes to the economy's sensitivity to interest rates,

Governor Stephen Poloz has already stressed household debt would remain elevated

for some time.

     However, the most recent trends have reflected a slower household credit

growth, including in the mortgage sector, where tighter underwriting standards

are also in effect since January. So while debt remains high, it is going in the

right direction, which increases the bar for not going ahead with a rate hike.

     So while Friday's data could cool expectations of a July rate hikes,

special factors and the overall background still provide a window for the

central bank to act, especially with wages growth picking up.

--NAFTA DEVELOPMENTS

     Uncertainty around the U.S. trade policies remains the elephant in the

room, and a major uncertainty that the central bank is keeping a close eye on.

     By July 11, volatility on that front could still increase and more threats

could become real. However, it can go both ways, with a NAFTA deal still being

worked on. Developments on that front could clear move the timeline.

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

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