Canada's economy surprises with Q4 flat line, backing up rate pause

By Ismail Shakil and Steve Scherer

OTTAWA (Reuters) -The Canadian economy unexpectedly stalled in the final three months of 2022, but likely rebounded in January, data showed on Tuesday, a result that backs up the Bank of Canada's aim to keep interest rates on hold at its next policy meeting in March.

Annualized fourth-quarter gross domestic product (GDP) was flat versus the previous quarter, Statistics Canada said, ending a streak of five consecutive quarterly increases. It was far below analysts' median forecast for a 1.5% increase.

The result also came in below the Bank of Canada's Q4 forecast for 1.3% annualized GDP growth. The central bank has raised its benchmark interest rate at a record pace to tame high inflation, but last month it said it wanted to pause its tightening campaign.

The Q4 figures give "the BoC just a little bit of comfort that higher interest rates are working to slow demand, especially with the conflicting signals from the labor market over the last couple of months," said Robert Both, macro strategist at TD Securities.

Canada added 10 times more jobs than expected in January, and both manufacturing activity and retail sales picked up the same month. The economy likely bounced back in January, expanding 0.3%, Statscan said.

"Some of the indicators are going in multiple directions and so the Bank of Canada will remain cautious evaluating the data after this meeting" next week, for which no action is a "done deal," said Derek Holt, vice president of capital markets economics at Scotiabank.

Money markets still expect that the central bank will hold its benchmark rate at 4.50% at the March 8 policy announcement, and they trimmed bets that it will be forced to tighten again later this year.

The economy contracted 0.1% in December from November, also below analysts' expectations that GDP would be unchanged in the month. Real GDP slowed in 2022 to 3.5% from 5% in 2021, after shrinking 5.1% in 2020 during COVID-19 pandemic restrictions.

The Canadian dollar was trading 0.2% lower at 1.36 to the greenback, or 73.53 U.S. cents.

Quarterly GDP was dragged down by slower inventory accumulations and declines in business investment in machinery and equipment as well as housing, Statscan said. That offset higher household and government spending and improved net trade, it said.

Still, Statscan said the economy likely started 2023 on a stronger footing, with increases in sectors including mining, quarrying, and oil and gas extraction and wholesale trade.

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The Bank of Canada in January forecast economic growth to be close to zero during the first three quarters of this year, but the central bank will want to wait before ruling out the possibility of another rate hike this year, Holt said.

The Bank of Canada "will want to see a whole lot more data before they're convinced that they're either done and/or that they're going to act again," he said.