Fed rate hike fears ripple through Canada, world

Published Thu, Jul 16 20155:49 PM EDTUpdated Fri, Jul 17 20159:11 AM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

While Janet Yellen was telling Congress on Wednesday the Fed hopes to raise interest rates this year, the Bank of Canada was busy announcing a rate cut and downgrading the outlook for its sagging economy. The two events are not unrelated, and Canada's tale is a forewarning of how a U.S. policy transition is already sending ripples around the world at the same time tumbling commodities prices are biting into growth. Canada's message became particularly chilly when its central bank governor, Stephen Poloz, said the economy has now contracted for a second quarter in a row, and that the growth forecast was downgraded for the year to just 1.1 percent. The commodity-linked currencies of Canada, New Zealand and Australia have all made new post-2009 lows against the U.S. dollar, and the central bankers in those countries have all been cutting rates as the U.S. moves to lift off from zero for the first time in six years. "I think it's like a scissors, and both blades are opening. You have the U.S. tightening, and these countries are easing. I think all three of them are easing not because of deflation, but because they have weak growth," said Marc Chandler, chief currency strategist at Brown Brothers Harriman. The twin worries of a slowing China and the potential for Greece to hit Europe's economy have added to weakness in commodities, and the stronger dollar has exacerbated the situation. With the Fed about to boost rates for the first time in nine years, the trends could continue and hurt commodity-exporting countries from Brazil to Norway and Russia. "They're turning in the wringer. In the 2008 period, those countries hardly noticed a recession. Now it's their turn," said Bob Doll, Nuveen Asset Management's chief equity strategist and a senior portfolio manager. The Bank of Canada reduced its key interest rate by 25 basis points to 0.50 percent, calling it "insurance" against falling oil prices. The decision to cut for a second time, however, was also worrisome since it was due to weak performance in not only energy but nonenergy exports in the second quarter. "I think it is significant. I think the message implied that Bank of Canada welcomes a weaker Canadian dollar. I think they're hoping some of the work will be done by the Fed. If the Fed raises rates, it will weaken the Canadian dollar," said Vassili Serebriakov, currency strategist at BNP Paribas. "If the Fed delays, it will be prepared to do more." A weaker Canadian dollar makes Canadian exports more appealing, and in theory should help lift the economy, even as imports become pricier. Chandler said Canada's central bank has also suggested it could boost its economy through quantitative easing, or asset purchases, in addition to the rate cut. The Canadian dollar could go to $1.30 by the first quarter, and weaken even further after that, he said. "As the market anticipates the Fed hike, and another easing fro