A Canadian federal election would rule out a spring interest rate hike

Michael Babad

What an election could mean:

If Canada in fact heads into an election, economists believe there could be some headwinds for the Canadian dollar (CAD/USD-I1.02-0.002-0.21%), which didn’t react much yesterday after NDP leader Jack Layton said he wouldn’t support the budget, and uncertainty surrounding the fiscal outlook. Most likely is that a campaign would stop any talk of the Bank of Canada hiking its benchmark overnight rate in April.

“First, the uncertainty over the near-term fiscal policy environment just went up in that it is less clear whether fiscal policy will act as a drag on growth if election goodies are dangled about,” said economists Derek Holt and Gorica Djeric of Scotia Capital.

“Second, over roughly the past 20 years, the [Bank of Canada] has generally avoided starting a tightening campaign in an election. It only did so in 1997, and that was because the economy was rapidly healing after the disaster of the first two thirds of the 1990s via over 734,000 jobs having been created in the back to back years of 1997-98. Now, if a May or June vote is in the cards, that adds to a long list of reasons why most analysts have abandoned much of any notion of a spring hike.”

Avery Shenfeld, the chief economist at CIBC World Markets, agreed, moving back his forecast for a rate hike to July, from his initial projection of May. He cited three reasons:

•The loonie will probably stay firm given high oil prices.
•Bank of Canada Governor Mark Carney may be "reluctant" to even signal a May rate hike at his next meeting in April.
•Softer core inflation amid 7.8-per cent unemployment could prompt Mr. Carney to raise his estimate of "potential" economic growth.
Over all, economists believe that Canada's fiscal standing will trump any uncertainty surrounding an election, which should leave the loonie in a strong position.

"Political uncertainty will be a looming question, however the global market has become quite comfortable with Canadian elections, the differences (or lack of) in our parties and a minority government," said Scotia Capital currency strategist Camilla Sutton. "Accordingly, we think in the medium term the focus should reside more with the strong sovereign position in Canada and less with political uncertainty."

Carl Weinberg, the chief economist at High Frequency Economics in Valhalla, N.Y., told his clients today that there wouldn't be a "sea change in power" if an election is called, and deficit-reduction will still be on the table regardless of what happens.

"Anything can happen at the polls, and the resulting budget is likely to differ in some respects from the plan outlined yesterday," he said. "However, fiscal austerity will be a key part of the platform of any party that wants to form a government Up North. So we see an election as neutral for the loonie and the bond market."

There was no detremental news to the housing industry and with the budget likely to be over turned, any fundamental changes won't be seen until the next adminstration.