**MNI PRE-BOC: Even With Trade, Still Case For July Rate Hike

By Yali N'Diaye

     OTTAWA (MNI) - Data since the last Bank of Canada's policy announcement at

the end of May provide justification for another 25-basis point rate hike to

1.50% in July, with one-off factors partly explaining some of the

disappointments. 

     Developments on the external front, however, with escalating trade

tensions, are likely to keep the central bank on the edge as uncertainty remains

high. A hike this week would give them more room to cut in the future if needed.

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

"cautious" to replace it with a "gradual" approach. "Developments since April

further reinforce the Governing Council's view that higher interest rates will

be warranted to keep inflation near target," the May statement said. It added

the BOC "will take a gradual approach to policy adjustments, guided by incoming

data."

     In a June 28 speech, BOC Governor Stephen Poloz added, "Financial markets

understood our message."

     --TIGHTER LABOR MARKET

     Statistics Canada reported Friday that employment rose 31,800 in June.

Although the unemployment rate increased to 6.0% in June from 5.8% in May, the

participation rate rose to 65.5% from 65.3%.

     Average hourly wage growth for permanent workers slowed to 3.5% from 3.9%.

However, the BOC's wage-common showed wages were up 2.3% in the fourth quarter,

and the preliminary first quarter estimate in April's MPR showed an acceleration

to 2.7%.

     --OPTIMISTIC BUSINESS OUTLOOK SURVEY

     The Business Outlook Survey also pointed to "broad-based" hiring plans

across the country and generally tighter labor markets.

     More generally, the survey signaled "widespread business optimism",

"buoyant" investment intentions and higher inflation expectations, all providing

an opportunity for the BOC to justify a rate hike Wednesday.

     --NEUTRAL RATE UNCHANGED

     In addition, the BOC is likely to keep its assumption of the neutral rate

unchanged, which confirms the need to further hike rates with the same final

destination.

     A staff research paper released Tuesday indeed found the neutral rate is

still between 2.5% and 3.5%, where it has been since April 2017.

     --MIXED DATA SET

     On the data front, input has been mixed, but weakness was partly explained

by one-off factors.

     For instance, April GDP rose 0.1%, which was a slowdown from March, but

weather conditions had a dampening impact.

     Further into the second quarter, the goods trade deficit unexpectedly

widened to C$2.8 billion in May.

     Exports dropped 0.1% to C$48.3 billion, with volumes down 1.0%. However,

Statistics Canada cited a disruption in the auto parts in the U.S. that affected

Canadian auto exports. Real exports excluding autos and parts actually rose

0.5%.

     Housing activity, another key area, has been cooling in the second quarter.

Although the BOC expects resales to recover, data so far are not validating that

expectation.

     --TRADE TENSIONS

     External developments also remain front and center, with rising

protectionism remaining the key threat to the growth outlook so far, which is

unlikely to change given how tensions have been escalating.

     Such a backdrop will keep the central bank on edge. Poloz said in his June

28 speech that the BOC will incorporate the effects of U.S. tariffs on steel and

aluminum, as well as retaliation, in Canada and globally, into its next

projections in July, and that the issue will "figure prominently in our upcoming

deliberations," as will housing and mortgages.

     The more important threat, however, is the imposition of tariffs on auto

imports by the U.S. the BOC only incorporates actual measures. However, it could

increase the impact of uncertainty on business investment, which could put a

further hike on a longer hold.

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

[TOPICS: M$C$$$,MX$$$$]