Could oil-price pain lead to rate-hike hesitation?

The Bank of Canada might soon pull back from its recent bullish signals

Could oil-price pain lead to rate-hike hesitation?
Earlier this month, Bank of Canada (BoC) Governor Stephen Poloz was apparently confident enough in the Canadian economy to consider closing the door on dovish rate policies. First-quarter GDP growth had come in at 3.7%, capital investment in the energy sector was accelerating, and oil prices had stabilized.

But on June 20, oil prices drifted down to nearly US$43 a barrel, shedding 22% from their 52-week high in January, according to the Financial Post. It fell by two more percentage points the next day, in spite of data from the US Energy Information Administration (EIA) showing a deeper-than-expected decline in crude inventories.

The problem, according to contributor Joe Chidley, is supply and demand.

Oil imports into Japan, the world’s fourth-largest oil consumer, fell by 13.5% last month — consistent with a long-term decline in demand of nearly 25% over the past decade, according to the EIA. The anticipated summer-season surge in US gasoline demand has not manifested; the EIA predicts essentially flat growth in total petrol consumption this year.

China, the world’s biggest net importer, has gasoline and diesel reserves so high that a few of the biggest refineries in the country are expected to shut down for the whole third quarter, according to Reuters.

Supply-wise, the North American shale industry is growing to an extent that supply cuts by OPEC are not providing enough of a price lift. Based on data from oilfield services company Baker Hughes, the number of US rigs rose to 1,092 during the week ended June 16, making it the 22nd straight week of rig-count gains. Canada’s rig count reached 159 — 2.3 times the number from the same time last year.

Libya and Nigeria, both grappling with civil unrest, have been exempt from OPEC’s production cuts; they have begun to ramp up production, as has Iraq, which led overall OPEC output to rise by more than 330,000 barrels a day.

OPEC will also come to a fork in the road next spring, when it has to decide whether to continue with the production cuts to hopefully establish a floor for oil prices, or to start producing again and try to claw back market share.

If another oil shock occurs, Chidley said, the BoC would have 50 basis points less cutting room than it did in early 2015. Should it push through with a cut anyway, he said, it would likely further ignite housing markets in Vancouver and Toronto; acceleration in business investment would be less certain, especially if low crude oil prices once again cripple the oil patch.

The weakening loonie has been the BoC’s best case for a Canadian economy that’s moved away from the energy sector. But if the bank hikes rates in July, according to Chidley, the loonie will rebound.

“So we probably shouldn’t count too much on the Bank of Canada moving anytime soon from its preferred position: on the sidelines,” he said.

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