Central bank expected to trim interest rate

Statistics Canada likely to reveal data showing core inflation rate steady.

On Tuesday, Bank of Canada governor David Dodge is expected to cut interest rates another quarter-percentage point to counter the risk of an economic slowdown.

The bank was given room to make an additional cut -- following up on December's quarter-point chop to 4.25 per cent -- as the annual core inflation rate for November came in at 1.6 per cent.

That's well below the Bank of Canada's target of two per cent.

Next Friday, Statistics Canada's consumer price index for December will be issued. Millan Mulraine, economics strategist with TD Securities, said he's expecting core inflation -- which excludes volatile measures like fuel and food -- to remain at 1.6 per cent and overall inflation of 2.4 per cent, down 0.1 per cent from November.

Mulraine said if December inflation is more than expected, it doesn't automatically mean the Bank of Canada would have erred in making a rate cut earlier in the week. He explained that interest-rate decisions take a year or more to take full effect on the economy, and it was the bank's actions -- or lack thereof -- more than a year ago that have helped create conditions for the low inflation we're seeing now.

He said a quarter-point cut has already been priced into stock markets, though they could be affected by what the central bank puts forward Tuesday as reasons for its decision.

"What would be more important for the markets at this moment would be the language coming out of the Bank of Canada," Mulraine said. "Our call is for another rate cut in March when the bank meets again. But depending on the language, we would have a better indication as to where the bank would be headed."

The central bank will provide some reasoning for whatever decision it makes on Tuesday, fleshing it out further on Thursday with a monetary-policy report update.

It will be Dodge's last move as governor -- he retires from the position on Jan. 31. Mark Carney takes over on Feb. 1.

Last week executives at Canada's big banks were outraged at suggestions they had held discussions to set interest rates independently of rate-setting decisions from the Bank of Canada.

It is "absolutely not" the case that the banks get together to set rates, said a spokesman for Bank of Montreal. "Pricing decisions are proprietary decisions and we don't discuss them in advance," he said.

Bankers expressed frustration at the suggestion in a media report that the banks were discussing defying the central bank because the commercial banks' own borrowing costs have risen due to the global-credit crunch.

A spokeswoman for Royal Bank of Canada also denied strongly that any collusion has taken place, and a spokesman for Toronto-Dominion Bank said the bank sets rates following its own policies, and "factors in a bunch of things including market conditions and what the Bank of Canada is doing."

The media report cited a report issued in mid-December from TD, in which the bank's economics department speculated some banks could choose not to reduce the prime rate after a Bank of Canada rate cut.

The federal government was expected to issue on Monday its fiscal monitor for November, indicating its financial position in the form of a surplus or deficit for the month and year-to-date.

"They've had a prolonged period of surplus, and that could be reversed, which would have important implications on markets and on the Canadian economy," Mulraine said.

For October, the government ran a $2.7-billion deficit, but the surplus since the beginning of the fiscal year in April stood at $6.6 billion.

Recently, the Canadian Centre for Policy Alternatives said the federal government could be risking a full-year deficit as early as the next fiscal year for the first time in a decade as a result of recent tax cuts and a slowing economy.

On the possibility of a federal deficit, Mulraine said: "We don't expect it to happen, but we haven't discounted it as a possibility."

Statistics Canada will also be issuing numbers for November retail sales on Tuesday and December's economic leading indicators on Wednesday.

Numbers for December sales of existing homes in the U.S. will be released Thursday. Mulraine said he expects more negativity here.

He said if any positive news emerges from this sector, it could be a sign of relief ahead.

(prepared by Derek Abma/Vancouver Sun)