INTEREST RATES: Expect interest rates hikes from Bank of Canada

What does the Bank of Canada do now with both inflation and retail sales stronger than expected? Will the central bank begin raising borrowing costs from record-low levels beginning next month, which had been widely anticipated, or hold off to at least July to better gauge the impact of the European debt crisis on the global economic recovery?

Figures from Statistics Canada on Friday showed the annual inflation rate, driven by gains in energy prices, rose to 1.8 per cent in April compared with a 1.4 per cent rise in March. Excluding volatile products like gas prices and some perishable foods, core inflation rose to 1.9 per cent from 1.7 per cent in March. Retail sales also soared 2.1 per cent during the month, compared to an upwardly revised 0.8 per cent increase in February. March marked the fourth straight monthly gain, and was the biggest rise in more than five years.

Domestically speaking, all signs point to an increase in the Bank of Canada's key interest rate, currently sitting at a record low 0.25 per cent. Analysts have been forecasting a rate hike was all but certain since the central bank scrapped its pledge to hold them at 0.25 per cent on April 20.

But Canada is not an island and external factors, such as the European debt crisis, are certain to play a role in the Bank of Canada's decision.

"You can't ignore what is going on around you," said Benjamin Reitzes, an economist with BMO Capital Markets. "Commodity prices have fallen very sharply and that has an effect on Canada; financial market volatility, falling stock market, wider credit spreads will have an impact on Canada at the end of the day and the Bank of Canada cannot ignore those factors. If this weakness in global financial markets continues then that will make it a very tough decision for the bank."

But Reitzes said BMO is was still leaning toward a June 1 rate hike, especially considering the solid data on Friday.

Financial markets have been roiling in recent weeks amid worry that Greece and possibly other countries such as Spain and Portugal could default on their debt. While a $1-trillion U.S. bailout packaged calmed nerves initially, investors have turned their focus to the slow growth that probably lies ahead as countries around the world pare back spending.

Those growth worries, in conjunction with weak consumer price data in the United States, helped drag the loonie down under 94 cents U.S. on Thursday. As the Greek sovereign debt crisis destabilized markets worldwide, experts revised the odds of any increase closer to 50 per cent.

But the data Friday changed the odds again, with analysts now saying the figures supported a hike and the loonie picking up on that theme too, showing a rise back above 94 cents U.S. on Friday.

Some analysts also point out that Canadian household debt is currently even higher than in Greece, while there are also worries housing prices have moved into bubble territory.

"(The Bank of Canada) needs to move on rates if for no other reason than to raise the cost of money as a means of curbing consumer consumption that is currently leading us down a path of consumer imbalance," said Stewart Hall, Canadian economist for HSBC Securities. "We really don't want to end up with an imbalanced consumer because if we lose the consumer than you really face the prospect of not only slower growth but even double-dipping (into recession)."

(prepared by Jameson Berkow/Financial Post/Vancouver Sun)