Despite a jump in January's inflation rate, the Bank of Canada (BOC) said measures of core inflation "continue to point to material excess capacity in the economy," exports face challenges from the exchange rate of the Canadian dollar and growth in wages and hours worked are subdued.
Overall, the Canadian economy is performing as the BOC forecast in January although growth in the fourth quarter "may have been slightly stronger than expected," the central bank said.
In its January monetary policy report (MPR), the BOC, which has kept its rate steady since cutting it in July 2015, raised its forecast for 2017 economic growth to 2.1 percent from 2.0 percent but maintained the 2018 forecast at 2.1 percent.
Canada's Gross Domestic Product grew by an annual rate of 1.3 percent in the third quarter of last year, up from 1.1 percent in the second quarter.
The headline inflation rate rose to a higher-than-expected 2.1 percent in January - above the BOC's 2.0 percent target - from 1.5 percent in December, but this was largely due to higher gasoline prices from new carbon taxes in the provinces of Alberta and Ontario.
Excluding gasoline, the inflation rate in January was 1.5 percent, up from 1.4 percent in December.
In January the BOC trimmed its 2017 inflation forecast to 1.8 percent from 1.9 percent, despite raising its assumption of oil prices, while the 2018 forecast was unchanged at 1.9 percent.
The Canadian dollar (CAD), known as the loonie, fell in 2013 and the fall in crude oil prices in mid-2014 accelerated this decline, with the exchange rate falling to around 1.45 per U.S. dollar in January last year.
But a rise in oil prices and signs of economic resilience helped the loonie bounce back until May last year and since then it has been moving slightly lower, especially in the last week against the U.S. dollar.
"The Bank of Canada today announced that it is maintaining its target for the overnight rate at 1/2 per cent. The Bank Rate is correspondingly 3/4 per cent and the deposit rate is 1/4 per cent.
CPI inflation rose to 2.1 per cent in January, reflecting higher energy prices due in part to carbon pricing measures introduced in two provinces. The Bank is looking through these effects, as their impact on inflation will be temporary. The Bank’s three measures of core inflation, taken together, continue to point to material excess capacity in the economy.
Overall, recent data on the global and Canadian economies have been consistent with the Bank’s projection of improving growth, as set out in the January Monetary Policy Report(MPR). In Canada, recent consumption and housing indicators suggest growth in the fourth quarter of 2016 may have been slightly stronger than expected. However, exports continue to face the ongoing competitiveness challenges described in the January MPR. The Canadian dollar and bond yields remain near levels observed at that time. While there have been recent gains in employment, subdued growth in wages and hours worked continue to reflect persistent economic slack in Canada, in contrast to the United States.
The Bank’s Governing Council remains attentive to the impact of significant uncertainties weighing on the outlook and continues to monitor risks outlined in the January MPR. In this context, Governing Council judges that the current stance of monetary policy is still appropriate and maintains the target for the overnight rate at 1/2 per cent."
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