Bank of Canada Governor Stephen Poloz suggested that rising U.S. and global bond-market interest rates are leaning against the Canadian central bank's stimulative low-rate policies, in the bank's latest signal that it has no intention to follow the U.S. Federal Reserve's lead in raising its official rate.
"It's absolutely a case that rising bond yields, which will translate into rises in mortgage rates here in Canada, represent a tightening of financial conditions here in Canada," Mr. Poloz said at a news conference after Thursday's release of the bank's Financial System Review.
He said that, "to a certain degree," the bank had already assumed rising market interest rates as the U.S. economy and interest rates continued to recover, and part of that is already incorporated in its current economic outlook. But he acknowledged that the bank will have to reassess the impact of the sharp upturn in bond yields – which began with Donald Trump's election win and has been exacerbated by the U.S. Fed's decision this week to raise rates – when revising its economic projections for its quarterly Monetary Policy Report in mid-January.
And he hinted that a Canadian rate cut, something that the central bank toyed with earlier in the fall, still isn't out of the question if the bank determines that the rise in market rates and borrowing costs are applying too much of a brake on Canada's economic and inflation outlooks.
"Those things will have to be taken into account when developing our own monetary policy," he said, indicating that the Bank of Canada wouldn't feel restricted by the fact that the Fed is now expected to raise its key rate as many as three more times over the next year.
"We have plenty of ability to adopt an independent monetary policy, and that's what we will do in order to achieve our inflation target. If the inflation target is put at risk, then we would need to take those things into consideration."
He noted that Canada's economy is much farther away from running at full capacity than the U.S. economy is, an argument for a different monetary policy path in Canada.
He did point out that the Fed's decision to resume raising its rate is in many aspects a positive for the Canadian outlook, which is closely tied to the economic health of its big U.S. trading partner.
"Certainly, it is pleasing to see growing confidence in the outlook for the U.S. economy, which is a really important ingredient for our own outlook," he said. And he said the run-up in bond yields has so far been "pretty orderly."
"How far it goes, and at what pace, is the question that remains, and that's what we'll need to deal with when we next do our forecasts in January. But the first implications are already evident – mortgage rates are already being revised upwards."
Those rising mortgage rates have implications for the key issues the bank raised in Thursday's Financial System Review, its closely watched twice-annual report on the risks to the country's financial system. The bank reiterated that its chief worries are still overheated housing markets, particularly in Toronto and Vancouver, and Canadians' heavy debt levels, which have largely been elevated by steep housing prices.
But the bank believes recent changes in mortgage rules will serve to dampen demand and improve the quality of mortgage debt in the country over time, taming those risks to the financial system.
Mr. Poloz said that higher rates "will cause people to think again about their decision whether or not to buy a home," and thus should have a cooling effect on demand from new buyers. But he added that the impact on pushing up the cost of mortgage renewals might weigh on households with existing mortgages, and that could pose an economic drag.
"We know with the level of indebtedness that we have … that the economy will be more sensitive to rises in interest rates than it was in the past."
Mr. Poloz characterized 2016 as "a challenging year" for the Canadian economy, amid stumbles in exports, the impacts of the Alberta wildfires and the long, slow adjustment away from the depressed resource sector and toward other sources of growth. However, he said he was "heartened" that the economy achieved growth and continued its adjustment through the up-and-down year.
"The economy has managed well through that adjustment process. It's not without hardship," he said. "I'm not saying those adjustments are over."
"There's reason to be hopeful," he said. "It doesn't sound like it's time to declare victory on anything. It's not. We have a lot of work still to do. But we did OK, given all that."