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BoC rate hike adds to Western Canada’s economic woes

Crude oil storage tanks are seen at the Kinder Morgan terminal in Sherwood Park, near Edmonton, Alberta, Canada November 14, 2016.


The Bank of Canada says the economy as a whole has adjusted to lower prices for crude, and the oil-price shock that began three years ago is largely complete.

However, Wednesday's small-but-meaningful hike to the country's key interest rate is still worrying for many in Western Canada, especially in oil-focused Alberta – where the ill effects of the downturn and the spectre of continuing oil price weakness lingers.

Peter Tertzakian of the ARC Energy Research Institute said that, when taken in combination with lower global oil prices and the higher Canadian dollar, Wednesday's increase in the overnight lending rate to 0.75 per cent from 0.5 per cent makes higher-cost oil producers "even more vulnerable."

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Mr. Tertzakian calculates the interest-rate hike could potentially add $180-million in debt-servicing charges to the Canadian oil and natural gas industry's collective $72-billion in short-term debt. The figure might not sound significant when stacked against the activities of a multibillion-dollar industry, or for highly efficient producers.

But "for high-cost producers that are on the margin, every bit of added expense is significant."

While 2017 started out on a more optimistic note, forecasts for oil prices have been revised downward. This week, the U.S. Energy Information Administration predicted that West Texas intermediate crude oil prices will average below $50 (U.S.) per barrel until the second half of 2018. Just last month, the U.S. energy data agency had predicted WTI would average just above $50 per barrel this year.

An increase in the value of the Canadian dollar also hurts. Canadian crude exports go to the United States – and like almost all oil in the world – sells for U.S. dollars. Although Canadian companies often have to spend more to buy U.S. equipment when the loonie is low, Canadian currency weakness is a boost to the bottom line when it comes to exporting crude.

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Alberta's opposition Wildrose Party immediately used the bank's rate hike as another opportunity to criticize the mounting deficits of the provincial NDP government, saying it "will cost taxpayers big time with ballooning interest payments as the NDP government plunges Alberta deeper into debt."

The Bank of Canada cut rates twice in 2015, in part to protect against the fallout from the collapse in the price of oil. The bank's Monetary Policy Report suggests the central bank is aware that investment prospects for the sector are still "highly contingent on the outlook for global oil prices, which have recently declined."

However, many passages from the bank's report – which makes the case for Wednesday's rate hike – sound as if they were written based on results from the first quarter of this year, before oil prices plummeted again. "The drag on investment spending and economic growth from lower oil prices is mostly over, and growth in commodity-related activity is resuming," the report said, in a line that now appears optimistic.

The risk for Western Canada is not only in the debt accumulated by oil companies. With unemployment rates higher in Alberta than the rest of the country, the central bank's decision to hike its overnight lending rate could disproportionately affect individual debt holders on the Prairies, said Martha Hall Findlay of the Canada West Foundation.

"A lot of people have been laid off," Ms. Hall Findlay said of the energy sector. "There will be extra concern than in regions where things are perhaps moving along more successfully."

But she added household indebtedness is an issue across the country. "Having a relatively small increase that is a bit of a warning to people is a really smart thing. That's not a Western-versus-Eastern thing."

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Mr. Tertzakian said the country's fledgling renewable energy sector – which is flourishing in Alberta thanks to the provincial government's goal of doubling renewable-energy capacity by 2030 – could be affected by Wednesday's and future interest-rate hikes. Renewables are financed based on cash flow, and projects are often highly leveraged.

"Typically, renewable energy projects are 75-85 per cent debt," he said.

Stephen Poloz, governor of the Bank of Canada, and Carolyn Wilkins, senior deputy governor, give a press conference in which they announce the central bank's first rate hike since 2010.
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