Overnight rate to reach 1.75% in 2016, says RBC

Canada’s economic performance should improve in the latter half of 2015, says RBC Economics.

RBC projects real GDP growth of 1.8% in 2015 and 2.6% in 2016.

The firm also says American and Canadian monetary policy will diverge, so the loonie will depreciate to 77 U.S. cents, down from 81 U.S. cents – the average so far this year.

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RBC also anticipates headline inflation to bottom in the second quarter of 2015 as the effects of lower energy prices lessen. In 2016, rising energy prices and above-potential growth will underpin stronger increases in the headline rate.

“We maintain that the first increase in the overnight rate will be announced in the second quarter of 2016,” said Wright. “By the end of next year, we forecast the overnight rate will be 1.75%, 100 bps above today’s rate.”

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Tough 2015

Early 2015 was difficult for the economy as it dealt with severe weather, auto sector retooling and low oil prices. The economy contracted in the first quarter of 2015.

“Our outlook for Canada’s economy reflects a positive read on expectations for consumption and housing, and the notion that a strengthening U.S. economy and a more competitive domestic currency will fuel increased demand for Canadian exports,” says Craig Wright, senior vice-president and chief economist, RBC.

RBC says consumer spending will contribute to growth in 2015, with labour market conditions gradually firming, wage growth accelerating, and lower gasoline prices lifting disposable incomes.

On the business side, investment is headed for a weak year with energy companies aggressively scaling back their spending.

“Our forecast assumes investment by energy companies will fall by 30% this year,” says Wright. “For companies outside the energy patch, accommodative financial conditions in tandem with stronger domestic and foreign demand will translate to a pickup in investment activity. This will partially mitigate the economic fallout from the drop in the price of oil.”

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As oil prices recover, the weight from the pullback by energy companies will lessen, while non-energy companies continue their expansion plans in order to meet rising foreign and domestic demand.