MNI STATE OF PLAY: BOC Likely Tapering QE to CAD3B a Week

Canada's central bank will likely reduce its weekly target for government bond purchases to CAD3 billion from CAD4 billion at a meeting Wednesday on signs the economy will rebound from the pandemic this year.

The BOC is set to leave its overnight lending rate at 0.25% in its decision at 10am EST from Ottawa, and officials may also stress their intention is to keep meaningful stimulus in place for some time, with Deputy Governor Toni Gravelle saying in a recent speech that unwinding of QE would be done in "gradual and in measured steps."

The need for more monetary stimulus is being reduced with Canada recovering most of the jobs lost during last year's shutdown and industries such as manufacturing restoring more regular production through second and third waves of Covid-19. BOC officials have signaled that if the economy does well they could shift the focus of QE to stabilizing the balance sheet's size and reinvesting maturing assets.

Major fiscal stimulus is also taking the pressure off the BOC, as relief checks leave households with record cash savings for whenever stores open more normally. Finance Minister Chrystia Freeland's federal budget due at 4pm EST Monday is likely to press on with more big spending.

CONFIDENCE IN RECOVERY

Canada's exports of goods like lumber and energy are providing a surprise boost after years of disappointment, as major U.S. fiscal relief turbocharges demand. That may lead the BOC to follow the IMF's lead in boosting Canada's 2021 growth projection to 5% from the central bank's January estimate of 4%.

Some economists predict the BOC may say the economy returns to full output in 2022 rather than 2023, though that may not lead it to also shorten its guidance on rate hikes.

"Many firms consider the impacts of the pandemic on their activities to be behind them," the BOC said last week in its anecdotal quarterly survey of business conditions, while noting that many firms linked to close-contact services are struggling. The last rate decision March 10 said that "as the Governing Council continues to gain confidence in the strength of the recovery, the pace of net purchases of Government of Canada bonds will be adjusted as required."

Governor Tiff Macklem has has said QE will remain in place until the rebound is well underway, and that conditions required for a rate hike such as returning inflation sustainably to a 2% target won't be met until 2023.

Statistics Canada has not yet reported March CPI, which will show the first month of price gains driven by a comparison to last year's slump in gasoline, but it did release figures for February adjusting to new pandemic spending patterns that moved inflation to a 1.5% pace from the official 1.1% reading. Macklem has said inflation will likely peak around the top of the 1%-3% target band in the next few months, though the deep pandemic recession will keep prices in check.

AVOIDING OWNING TOO MUCH

The statement may also renew concern about the Canadian dollar strengthening to CAD1.25 per U.S. dollar from CAD1.40 over the last year, and home prices rising at a 32% annual pace suggesting consumers are taking on riskier mortgages.

Policy makers are aware of investor concerns that BOC holdings of 35% of the government bond market is higher than those of other central banks. Some traders have warned it would reach 50% by year-end without a policy shift, something that could create trading frictions.

That problem has emerged even after the BOC tapered last year from its original CAD5 billion target, and shifted purchases to longer-term debt more aligned with the majority of lending to consumers and businesses.

Wednesday's decision comes with a quarterly economic forecast paper and a press conference that investors say make a major policy shift more likely. Another forecast upgrade will be for Q1 growth that market economists estimate at a 5% annualized pace-- the BOC in March said there would merely be an expansion instead of a contraction.

A CAD1 billion tapering by the BOC was expected by eight of 11 economists surveyed by MNI, with three seeing no taper. Twenty out of 20 forecasts saw the overnight lending rate remaining at 0.25%.