Interest rate cut anticipated

Canadian consumers and businesses should get another quarter-point injection of interest-rate relief this week.

That assumes the Bank of Canada still sees the weakness in the economy as a greater threat than the risk of a spike in inflation from soaring global energy and food prices.

However, that's a no-brainer, according to CIBC World Markets economist Avery Shenfeld.

"The economy has been weaker than the bank's last projection, inflation has had but one bad month, and their house view is that the U.S. risks are largely to the downside," he said.

Bank of Canada Gov. Mark Carney and his team of deputies, who will make their decision this evening and announce it Tuesday morning, "needn't think hard about what to do," said Shenfeld, predicting a quarter-point cut in the central bank's target for overnight loans in the banking system to 2.75 per cent.

However, whether consumers and businesses feel the relief will also depend on whether the commercial banks follow the central bank's lead with a matching cut to their benchmark prime rates, now at 4.75 per cent, to which floating-rate consumer and business loans, including mortgages, are linked.

Traditionally, they have, but in recent months have delayed matching central bank rate cuts, the last time for nearly a full business day, on the grounds that with the domestic credit crunch their borrowing costs have not been going down.

And that's not changed, said TD Bank chief economist Don Drummond.

"The cost of funds to the banks has not been going down anywhere near proportionately to the Bank of Canada rate cuts, so I don't think it should be taken as a given that the banks will continue to cut if the Bank of Canada does," he said.

TD Bank, nonetheless, also expects the central bank will cut rates by a quarter point on Tuesday, but may signal in the statement accompanying its announcement it will step to the sidelines afterward to assess the impact of previous rate reductions. But it also expects that the U.S. slump will be more protracted than the central bank has projected and that it will have to resume cutting rates at year end.

This coming week, however, there will be only one more economic statistic -- May housing starts, being released today -- for the central bank to weigh before making its rate decision.

The numbers shouldn't deter the bank from any rate-cut intentions, analysts suggest.

"Despite favourable weather conditions, we look for housing starts to slow to a seasonally adjusted annual rate of 210,000 units in May," UBS Securities said.

Even analysts who expect a moderate increase in the pace of housing starts to reflect the recent surge in building permits for pre-sold condos, say they will mask what is clearly a cooling housing market.

On Tuesday, just prior to the Bank of Canada rate announcement, Statistics Canada will release figures on international trade in goods for April, which are expected to show an increase in the trade surplus.

However, analysts also suspect that will reflect the surge in prices for oil and other resource exports, and mask continuing weakness in the volume of exports resulting from the drag from the strong Canadian dollar and weak U.S. economy. Yet another upward lurch in resource prices, especially oil, probably pushed the surplus higher still in April, even as exports of other goods continue to take it on the chin, according to Douglas Porter, economist at BMO Capital Markets, which expects the surplus will reach a near two-year high of $5.8 billion.

Other reports this week look at the level of capacity that Canadian firms were operating at in the first quarter and changes in labour productivity in that quarter. In light of the shrinkage of the economy that quarter, its not surprising that analysts expect businesses were operating at a lower level of capacity and that productivity, measured as output per hour worked, slipped.

South of the border, the economic news is expected to be mixed to negative with the U.S. goods and services trade deficit in April being pushed up by high oil prices but retail sales in May likely getting some lift from higher gasoline and food prices and the first full month of tax rebates to offset what were another month of falling auto sales.


(prepared by Eric Beauchesne/Vancouver Sun)