TORONTO (Reuters) – Toronto-Dominion Bank became the first primary dealer to push its forecast for the next Bank of Canada rate hike into 2012, warning the economy has not fully emerged from the shadow of the financial crisis.

TD, Canada’s second-biggest lender, said on Tuesday it expects that the Bank of Canada will next raise its key policy rate by a quarter-point in January to 1.25 percent.

It’s the bank’s second revised call in as many months. TD last month shifted its long-held forecast of a July interest rate hike to September.

“All the reasons for them to hold off in September apply just as equally to remaining on hold through the balance of the year,” said David Tulk, chief Canada macro strategist.

“If you look at the balance of risk, it’s still is tilted firmly to the downside.”

The pace of Canada’s economic expansion is widely expected to slow this year following robust 3.9 percent annualized growth in the first quarter. Weakening U.S. growth, Japan’s earthquake and Europe’s ongoing sovereign debt woes have all hurt the Canadian outlook.

The Bank of Canada last year became the first central bank among the Group of Seven rich economies to tighten monetary policy after the financial crisis. But it has kept its benchmark policy rate at 1 percent since last September, following three successive increases.

TD’s revised call puts it more in line with current pricing of overnight index swaps, which trade based on expectations for central bank policy. The swaps market has not fully priced in the prospect of a rate hike at any of the bank’s remaining four policy-setting dates this year.

A May 31 Reuters survey of Canada’s 12 primary dealers — the institutions that deal directly with the central bank as it carries out monetary policy — showed half forecast the Bank of Canada’s first 2011 rate hike will happen in September. The other half were split on July and October.

TD expects rates will rise by 25-basis-point increments next year and bring the Bank of Canada’s target for the overnight rate to 2 percent by the middle of 2012.

It then expects the central bank to move to the sidelines to reassess the outlook. TD see the key rate at 3 percent in 2013.

The bank expects the U.S. Federal Reserve will begin hiking in January 2012 as well, but take a pause when it reaches a fed funds target rate at 1 percent from the current 0.25 percent.

(Editing by Jeffrey Hodgson)

OTTAWA (Reuters) – The Bank of Canada held its key interest rate steady on Tuesday and signaled it may keep rates on hold for longer than markets had expected even though it nudged its economic growth forecasts higher.

The central bank held its overnight lending target at 1 percent for the third straight time after leading the Group of Seven advanced economies last year by raising rates three times between June and September.

“Any further reduction in monetary policy stimulus would need to be carefully considered,” it said in a statement that repeated the language used in its two previous rate decisions.

Canada’s economy snapped back to life in late 2009 after a shallow recession but the initial galloping pace of growth has since slowed to a crawl, leaving policymakers wary of withdrawing extraordinary stimulus measures too soon.

While nobody expected the bank to make another rate move as early as this month, some market players had bet on a more hawkish statement on rates to reflect the spillover effects of recently announced U.S. tax cuts and the U.S. Federal Reserve’s bond-buying program.

The bank did upgrade its economic outlook slightly, but it didn’t change its medium-term forecast for a balanced economy by the end of 2012.

It stressed that the high-flying Canadian dollar was hampering recovery in the export sector, the backbone of the Canadian economy, and that Europe’s debt woes remain a black cloud over the global economy.

Many analysts think the bank is unlikely to push Canadian rates much above their U.S. equivalents because this could send the Canadian dollar to fresh multiyear highs. And Monday’s government decision to curb high household debt by tightening mortgage rules for a second time in less than a year could also let the bank delay a fresh rate hike further.

Those looking for hints about the timing of the next rate hike were disappointed.

“This reaffirms our view that the bank is on a prolonged pause and reinforces our forecast that the next hike isn’t coming until October,” said Derek Holt, economist at Scotia Capital.

“I think (the tone) is consistent with the tone of their speeches and the last rate statement, but it’s a bit more dovish than some in the market might have expected,” he said.

Mark Chandler, head of fixed income and currency strategy at RBC Capital Markets, called it a “very, very cautious outlook”.

“At least for now they don’t see any real benefit in laying cards on the table in terms of expected rate increases,” Chandler said.

Forecasters in a Reuters poll last week unanimously predicted no change in rates on Tuesday, but a majority saw at least one rate hike by the end of May this year and three expected a tightening on March 1.

Overnight index swaps, which trade based on expectations for the key central bank rate, showed investors see an 83.23 percent probability rates will stay on hold March 1, compared with 72.85 percent before the statement.

The Canadian dollar weakened to C$0.9931 against the U.S. dollar, or $1.0069, from C$0.9867 just before the announcement.

Money market rates and bond yields were lower after the rate announcement. The yield on the rate sensitive two-year Canadian government bond was 1.755 percent, down from 1.792 percent just before the statement.

TOUGHER LANGUAGE ON CURRENCY

The central bank sees the Canadian economy growing by 2.4 percent in 2011 and by 2.8 percent in 2012. Last October it put 2011 growth at 2.3 percent and 2012 growth at 2.6 percent.

It expects business investment to continue to rebound sharply, helping offset the impact of softer consumer spending and a cooling housing market. Net exports will also contribute more to growth in coming quarters despite the strong Canadian dollar, thanks to signs of fresh vigor in the U.S. economy.

But at the same time it toughened its language on the harmful effects of the strong Canadian dollar on the recovery, as some market players had anticipated.

“The cumulative effects of the persistent strength in the Canadian dollar and Canada’s poor relative productivity performance are restraining this recovery in net exports and contributing to a widening of Canada’s current account deficit to a 20-year high,” it said.

The Canadian dollar appreciated 5.7 percent against the U.S. dollar last year and nearly 16 percent in 2009.

The bank’s quarterly Monetary Policy Report, due for release on Wednesday at 10:30 a.m. (1530 GMT), will provide more details on the outlook.

(Additional reporting by Leah Schnurr; Writing by Louise Egan; editing by Peter Galloway)

Concern over rising consumer debt levels is prompting Ottawa to make three new changes to Canada’s mortgage rules.

Finance Minister Jim Flaherty announced Monday that new federal rules will reduce the maximum amortization period to 30 years from 35 years for government-backed insured mortgages with loan-to-value ratios of more than 80 per cent.

Secondly, Ottawa will lower the maximum amount Canadians can borrow in refinancing their mortgages to 85 per cent from 90 per cent of the value of their homes.

Thirdly, Ottawa will withdraw government insurance backing on lines of credit secured by homes.

Though longer amortization periods reduce monthly payments, they greatly increase the amount of interest paid over the life of the mortgage and make it harder to build up equity.

The average Canadian resale home sold for $344,551 in December. Assuming a five-year mortgage at 4 per cent interest, and the minimum 5 per cent down payment of $17,227, a 35-year mortgage would have monthly payments of $1,441. Shorten the amortization period to 30 years, and the monthly payment increases to $1,555.

At a news conference in Ottawa, Mr. Flaherty said the measures will encourage Canadians to save more through home ownership. He said they will also reduce the exposure of Canadians to financial risks.

Mr. Flaherty said his concern is not Canada’s mortgage default rate – which is less than 1 per cent. Rather his concern is those who are borrowing as much as possible.

“We’re seeing people borrow to the max, and borrowing to the max at low interest rates,” he said. “Most Canadians are not doing that.”

Mr. Flaherty predicted the measures will have “some moderating” impact on the housing market.

He said the changes will not take effect imediately because of a requirement to give the industry 60 days notice before making policy changes of this nature.

He said past experience suggests there is no need to fear a rush on 35-year mortgages before the new rules take effect.

In addition to cutting mortgage terms, Ottawa is taking action to reduce the rapid rise in home equity lines of credit, or HELOCs. The government will do this by clamping down on the insurance that Canada Mortgage and Housing Corp. offers to the lines of credit.

Home-equity lines of credit and loans have surged in Canada, rising at almost twice the pace of mortgages over the past decade to account now for 12 per cent of overall household debt.

The third measure that will reduce how much Canadians can draw on their home equity. Last February the Finance Department announced that it would lower the maximum amount Canadians could withdraw in refinancing their mortgages to 90 per cent from 95 per cent of the value of their homes. It is now reducing that maximum to 85 per cent from 90 per cent.

Observers have been speculating that Finance Minister Jim Flaherty would take steps to tighten mortgage credit in the next federal budget. The timing of the move suggests concerns are growing in government circles about household debt and its impact on the economy.

CIBC chief economist Avery Shenfeld referred to the mortgage changes as part of a larger move by the government to “force Canadians on a debt diet” as household debt levels sit at record levels.

“Policy makers now have that credit buildup in their policy gun sights, and will use higher rates and regulatory changes to bring spending into better line with income, and cool mortgage demand,” Mr. Shenfeld wrote in an economic forecast on Monday.

“Canadians aren’t on the verge of a U.S.-style default crisis – not at these interest rates, and not with debt having been granted to stronger hands than was the case before America’s crisis, when subprime mortgages and credit cards were given out like candy,” he said.

“But maintain this diet of borrowing for five more years and debt obesity would indeed weigh down the household sector’s momentum. It’s time to start the borrowing diet now, and that means policies aimed at slower debt-financed consumption growth and a cooler housing market.”

Bank of Montreal’s head of Canadian retail banking supported the government’s move, since the bank has been primarily recommending mortgages with a maximum 25-year amortization to build more equity and retire the loan faster, rather than paying more interest.

“The actions announced today by Minister Flaherty are prudent, measured, responsible and timely,” Frank Techar, president of personal and commercial banking at BMO, said in a statement issued by the bank. “For many months, BMO has been encouraging Canadians to lower their total cost of household debt by paying down short-term higher interest debt and considering the benefits of a mortgage with a 25-year maximum amortization to help them save interest costs and pay down their mortgage faster.”

It’s not the first time the Conservative government has tinkered with the mortgage market. In 2008, Mr. Flaherty announced Ottawa would no longer back 40-year amortizations, with a goal of cooling down a hot real estate market and preventing the emergence of a housing bubble in Canada. At that time, the government said it would also back only mortgages where the buyer has put down at least 5 per cent, effectively eliminating zero-down mortgages.

Last February the Finance Department lowered the maximum amount Canadians could withdraw in refinancing their mortgages to 90 per cent from 95 per cent of the value of their homes. Mr. Flaherty also introduced a measure requiring borrowers to qualify for a five-year fixed-rate mortgage, even if they sought a variable mortgage at a lower rate. Until that change, home buyers only had to qualify for the higher of either a three-year fixed-rate or variable-rate mortgage.

The Canadian Association of Mortgage Professionals spoke to the government frequently over the last three months, and was pleased that the changes didn’t include any modification to the minimum down payment required to buy a home. And while president Jim Murphy said that he generally approves of the changes to amortization lengths, he hopes the government shows the same willingness to change if the market cools further.

“We understand why he did what he did,” Mr. Murphy said. “But we hope when the time comes, he’ll revisit that decision. Real estate is very important to the economy, and it’s crucial that we find a balance because you don’t want to overreact to temporary market conditions.”

He said a better choice would have been to keep 35 year amortizations, but force all applicants to qualify with the assumption of a 25 year amortization.

CAAMP, which represents the mortgage brokerage industry, released a study late last year that showed mortgage debt in Canada surpassed $1-trillion for the first time in 2010. About 22 per cent of all new mortgages had amortization rates longer than 25 years, up from 18 per cent the year before.

There was a jump in the number of Canadians using their mortgages to free up cash, with 18 per cent taking out equity as the cited a need for “debt consolidation or repayment.” The average amount borrowed against home equity was $46,000. Given that there are 5.65 million mortgage holders in Canada, CAAMP estimated the borrowing at $41-billion, about the same as last year.

“It is estimated that 30 per cent of the takeout was for debt reconsolidation and repayment,” the report stated. “Therefore, while the amount of outstanding mortgage debt would have increased by this amount, totals for other types of debt would be correspondingly reduced. About $15-billion was taken out for renovations, $6-billion for education and other spending, $7.5-billion for investments and $4-billion for other purposes.”

With files from Boyd Erman, Tara Perkins and Steve Ladurantaye

The Bank of Canada raised its benchmark interest rate by 25 basis points Tuesday, the second straight time it has done so after keeping rates at unprecedented lows for more than a year.

In its latest policy decision, the bank opted to move its overnight lending rate to 0.75 per cent. The bank had previously raised its benchmark rate to 0.5 per cent in June after having kept rates at emergency lows since April 2009 in an attempt to stimulate the economy and spur lending.

In raising the rate, the bank moved to lightly hit the brakes on a Canadian economy that has shown signs of significant strength in recent months.

But the bank made it clear in its policy statement that it sees Canada’s economy recovering more gradually than it did in its previous outlook in April. It now projects GDP growth of 3.5 per cent in 2010, 2.9 per cent in 2011 and 2.2 per cent in 2012.

The bank also made it clear that future rate hikes are not guaranteed.

“Any further reduction of monetary stimulus would have to be weighed carefully against domestic and global economic developments,” the bank said in its statement.

Further rate hikes can’t be ruled out, BMO economist Michael Gregory noted.

“The bank’s forward-looking language does not preclude further rate hikes,” he said.

“[But] the bank now has more wiggle room to raise rates … if they want to. And we think they will.”

The next scheduled date for announcing the overnight rate target is Sept. 8.

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