Why Canadians can expect low interest rates for longer — much longer: Morgan Stanley

Pamela Heaven | January 15, 2015 | Last Updated: Jan 15 2:06 PM ET

Don’t look for another interest rate hike for two more years; in fact, there is a one in three chance the Bank of Canada will actually cut rates before the end of this year, Morgan Stanley predicts.

The latest forecaster to take a stab at the impact of plunging oil prices on Canada’s economy, the American bank stands out for its bearish take.

The bank not only pushed its forecast for the first rate hike to 2017, it predicted others would soon follow suit.

“The fall in oil is undisputedly negative for Canada’s economy,” the bank wrote in its report Wednesday “Canada Outlook: Sands through the hourglass.”

“Rate differentials should continue to move against Canada, if, as we expect, the market pushes out expectations for tightening from the Bank of Canada into 2017, reflecting a later closing of the output gap.”

Until Tuesday, most economists have expected a rate increase in late 2015. But dovish comments by Bank of Canada Deputy Governor Timothy Lane, led some to reconsider. BMO Capital Markets, which has cut its 2015 growth forecast to 2.1% from 2.5%, said Wednesday it was now looking for the next interest rate hike to come in January 2016.

Oil prices that have fallen by about 60% since June are threatening economies that depend on commodities exports. Wednesday, Brent crude fell to US$46.49, while WTI was trading at $46.04. A steep spike sent prices up more than 6% to around $48, but analysts doubted it would last.

On the back of plunging prices, Morgan Stanley has cut its forecast for economic growth 0.6 percentage points to 1.8% for 2015 and sees the malaise stretching into 2016, where it expects growth to slow to 1.5%, down almost a percentage point from its previous forecast.

That compares to the Bank of Canada’s October outlook which saw the economy gaining 2.5% in 2015 and 2.3% in 2016.

Weaker growth will be driven by further cuts to spending and production in the energy sector, which has already reduced capex plans by an average of 20% year over year.

Morgan Stanley says the central bank will have no choice, but to cut its forecast next week when it releases its monetary policy report, a move that will further pressure on Canada’s struggling currency.

The bank said it expects the loonie to fall to 80¢ US in coming months as currency markets fully price in the second round of effects of lower oil prices.

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