MNI STATE OF PLAY: BOC Taper Seen On Course As Growth Wobbles

The Bank of Canada on Wednesday may signal it remains on a path to the further tapering that some investors expect in the third quarter, holding its rate and asset purchase settings for now as it juggles a short-term growth slowdown and faster inflation.

After a flash April GDP decline of 0.8% and first-quarter expansion that slightly lagged the BOC's estimate, investors will watch for signs the central bank agrees the economy will recharge in coming months as a majority of Canadians get their first Covid shots, the housing market booms and exporters benefit from surging commodity prices.

The policy rate is expected to stay at a record low 0.25% according to all economists surveyed by MNI, and the pace of federal bond purchases is also seen remaining at CAD3 billion a week. The decision is due at 10am EST and comes without a new economic forecast or press conference. Those are next due in July, which about half the market sees as the earliest chance for a taper to CAD2 billion.

"The economic outlook for the second half of the year is undoubtedly brightening. As such the Bank of Canada remains on track to taper its asset purchases again in July," ING's James Knightley and Francesco Pesole wrote in a research note. The original pace of QE was CAD5 billion.

Others see tapering left until September or later to ensure the economy is back on track. The path is still clear enough that several market economists see net bond purchases wrapping up around the end of the year, with perhaps a pace of CAD1 billion kept in place to stabilize the size of the BOC's balance sheet. In contrast, Fed Chair Jerome Powell refuses to discuss tapering and ECB officials are still mapping out further asset purchase envelopes.

STRONG AND FREE RECOVERY?

Former Governor David Dodge told MNI last month the BOC needs to avoid amassing a large stockpile of bonds that distorts market pricing. Macklem says the main driver of how he calibrates bond purchases is hastening a return to full output and stable inflation around his 2% target. Canada leads major central banks with purchases of 35% of the federal debt stock since the pandemic broke out and some investors say the BOC was on track to own half the market this year.

"Any further adjustments of our quantitative easing program will reflect our assessment of the strength of the recovery and its durability," Macklem told reporters at the time, employing a key phrase to watch for in the new statement Wednesday. Regaining lost jobs is also an informal priority for Macklem and employment fell for a second month in May.

BOC officials will likely again dismiss the rise in CPI inflation to a 3.4% year-over-year pace -- the fastest in a decade-- as temporary and no threat to the 2% target. While Macklem at the last meeting in April indicated conditions for a rate increase could come in the second half of next year, rather than sometime in 2023, markets see no further tweak to that rate guidance.

The mismatch between slowing growth and faster inflation will be a key area to watch in the one-page decision from Ottawa. First quarter GDP growth of an annualized 5.6% lagged the BOC's 7% projection but was still a world away from earlier fears the economy would shrink during the knock-on waves of the pandemic. Inflation after adjusting for new spending patterns in the pandemic may really be about 4% as of April, MNI's reporting on Statistics Canada's overhaul suggests, beating the BOC forecast for an average 2.9% in the second quarter.

Another wild card is whether the BOC will reference the Canadian dollar's strength, with a former government official telling MNI last month Macklem would likely scale back economic forecasts before directly trying to talk down the currency. The currency has strengthened to CAD1.20 from CAD1.27 this year, the strongest since 2015.