Bank of Canada leaves interest rate unchanged, warns of loonies rise

OTTAWA - Bank of Canada governor Mark Carney has raised the alarm on the surging Canadian dollar, while reiterating his conditional commitment to keep interest rates at historical lows.
The central bank's scheduled monetary policy announcement Thursday was, as expected, no announcement at all.
The bank said its overnight trend-setting rate would stay at the practical low of 0.25 per cent and, unless something unforeseen occurs, will stay there until next summer.
But in clear language, the central bank served notice that it is concerned about how far and how fast the Canadian loonie has risen since April and that it is prepared to intervene if necessary.
Noting that there had been clear signs of improvement in economic and financial conditions in Canada, it added: "If the unprecedentedly rapid rise in the Canadian dollar proves persistent, it could fully offset these positive factors."
"The bank retains considerable flexibility in the conduct of monetary policy at low interest rates, consistent with the framework in the April monetary policy review."
In April, the bank had predicted the economy would begin to grow again in the fourth quarter of this year and expand by 2.5 per cent next year.
But one of the assumptions it included in the projection was that the loonie would average about 80 cents US. Since then, the currency has soared past the 90-cent level and remains there despite a two-cent drop Wednesday.
With the target rate already as low as it can go, Carney's reference to the policy review is a clear signal that he is prepared to move to so-called quantitative easing - including increasing the money supply - to prevent a muscular loonie from strangling the recovery.
Quantitative easing involves the purchase of government and possibly corporate bonds, or debt, to free up stimulative money in financial markets that will lead to increased lending and borrowing by businesses and consumers.
One of the central bank's concerns with the loonie's recent flight is that not all has been due to fundamental factors.
Commodity prices, particularly oil, have firmed up of late, helping boost Canada's currency but another key factor, and perhaps more important, has been the weakness of the U.S. currency.
Other than concern about the dollar, Carney expressed confidence the economy in Canada and the world was progressing in line with expectations laid out last April.
The central bank said Thursday that key sectors in Canada were undergoing a major restructuring and the already "significant output gap" would continue to grow through the third quarter, which should keep downward pressure on inflation.
And it reiterated its previous call that when the recovery occurs, it will be more muted than past rebounds from recessions.
"In recent weeks, financial conditions and commodity prices have improved significantly, and consumer and business confidence have recovered modestly," it said.
The bank was pleasantly surprised last week when Statistics Canada reported first-quarter contraction in Canada had been limited to 5.4 per cent of output, significantly better than Carney's expected 7.3 per cent retreat.
But the Bank of Canada continues to caution that the outlook remains uncertain and overall risks to the inflation projections remain tilted slightly to the downside, adding:
"Conditional on the outlook for inflation, the target overnight rate can be expected to remain at its current level until the end of the second quarter of 2010 in order to achieve the inflation target."
The bank's 2.5 per cent growth projection for next year remains among the most optimistic of the regularly cited forecasts.