PREVIEW-Markets primed for Canada rate hike on June 1

WHAT: Bank of Canada interest rate announcement

WHEN: Tuesday, June 1 at 9 a.m. (1300 GMT)

FORECASTS: Thirty-two of 40 forecasters polled by Reuters
expected the Bank of Canada to raise rates by 25 basis points
on June 1 to 0.50 percent. Canada’s 12 primary securities
dealers were unanimous in that view. [ID:nTOR007523] (POLL20: )
Eight of 40 saw rates staying on hold next week.

The poll was conducted between May 24 and May 27.
[CA/POLL]

Yields on overnight index swaps, which trade based on
expectations for the key central bank rate, suggested investors
see a 77 percent chance the policy rate will rise to around
0.50 percent on June 1. (BOCWATCH: )

FACTORS TO WATCH:

What the bank has said: At its last rate announcement on
April 20 the bank removed its conditional commitment to hold
rates at an emergency level of 0.25 percent until the end of
June, opening the possibility of a hike at the earliest
opportunity. A rate hike on June 1 would make Canada the first
of the G7 industrialized economies to raise borrowing costs
following the financial crisis and recession.

The bank also said it was “appropriate to begin to lessen
the degree of monetary stimulus”, but suggested the timing and
extent of that process would depend on incoming economic data.

Bank of Canada Governor Mark Carney said on April 29 high
sovereign debt levels, the strong Canadian dollar and a poor
productivity performance could be problems for the Canadian
economy, affect the inflation outlook and therefore influence
monetary policy.

The data: Most of the news since the last rate decision has
been upbeat, suggesting the central bank has little cover for
holding rates until July without fear of an overheated economy
months from now.

Job gains were at a record high and inflation topped
expectations in April. Retail sales in March surged past
expectations as well. At the same time there have been signs
the frothy housing market is stabilizing, soothing fears that a
rate hike would leave many homeowners with unsustainable debt
levels.

Global outlook: Beyond Canada’s borders, the picture looks
slightly less rosy, with potentially noxious effects on
Canada’s exports and economic growth. However, the recovery in
the United States, Canada’s main trade partner, appears to
solid enough to withstand the euro zone debt crisis even though
the United States has a higher jobless rate than Canada does,
analysts say.

The Canadian dollar has been buffeted by the market angst
over the Greek debt crisis and uncertainty about other euro
zone countries, which could give Bank of Canada Governor Mark
Carney pause. The currency fell to a seven-month low against
the U.S. dollar this week on the debt woes but investors’ risk
appetite has improved somewhat since and the currency regained
some lost ground.

On the other hand, analysts point out that Carney
repeatedly and adamantly stresses the bank’s single-minded
focus on the inflation outlook, which trumps market conditions
if all else is equal.

A report by the Organization for Economic Cooperation and
Development on Wednesday said the central bank should start
“normalizing its policy rate without delay and tighten
gradually throughout the projection period”.

MARKET IMPACT:

Expectations that the bank will hike rates on June 1 was
already helping boost the Canadian dollar, which climbed to a
one-week high early Friday. The currency could strengthen
further if the predictions materialize.

A surprise decision to leave rates on hold would likely
bump down the Canadian dollar and cause bond yields to fall as
investors try to second-guess the reason for the bank’s
caution.

Investing Basics

(Reporting by Louise Egan; editing by Peter Galloway)

PREVIEW-Markets primed for Canada rate hike on June 1