05/30/2011 06:48 EDT | Updated 07/30/2011 05:12 EDT

Canada Rate Decision, Loonie Focus For Week

(CP) - The Canadian dollar could be under additional pressure on commodity markets this week after the Bank of Canada delivers its next announcement on interest rates on Tuesday.

The dollar moved lower for a fourth week last week, reflecting slowing economic conditions, particularly in the U.S., Canada's largest trading partner and doubt about when the Bank of Canada will resume raising interest rates.

No one expects the central bank to hike its key rate on Tuesday but traders will be anxious to read the bank's statement for clues as to when it will move the rate above one per cent, where it has been since September.

"We don't really even look for talk about imminent rate hikes next week," said BMO Capital Markets deputy chief economist Doug Porter.

It wasn't all that long ago that the Bank of Canada was fully expected to resume raising interest rates in July, heralding a string of quarter-point hikes that would see rates higher by one percentage point by early next year. But slowing economic conditions in much of the world has radically changed that outlook.

For example, a commentary from RBC Dominion Securities last week assessed the chances of a quarter point hike in July to just 12 per cent while the odds the central bank would raise in September slipped to just 40 per cent.

Porter said the shift in rate hike outlooks began in earnest after the Bank of Canada's last meeting on April 12th, followed by its monetary policy report the next day, when the currency was close to its recent highs of just under 106 cents US.

"And the overriding message at that time was they were even more concerned about the Canadian dollar than they had been before and just sounded in absolutely no rush to raise interest rates," he said.

"If anything, the economic data both in Canada and abroad have tended to disappoint since that time so our view is that the bank can take even more time before they start raising rates."

While the prospect of lower interest rates is great news for the Canadian borrowers, holding off on rate hikes does pose risks for the Canadian economy.

Last week, the Organization for Economic Co-operation and Development urged the Bank of Canada to raise borrowing costs within the next few months to demonstrate that it has a grip on inflation.

The OECD added that at one per cent, the Bank of Canada's key rate is "highly stimulative."

"The concern here is that the longer the bank keeps rates at these artificially low levels, the more risks there are of having people engage in speculative or high risk activity, perhaps borrowing too much and not saving enough both at the consumer and household level and maybe at the business level as well," said Porter.

"Core inflation (which filters out volatile items such as fuel and food) is still below the bank's two per cent target but things can change quickly on that front and it would be prudent for the bank to gradually start raising rates in the second half of this year."

Meanwhile, stock market investors will be looking at a slew of economic reports this week that are likely to confirm concerns that economic conditions continue to soften.

In Canada, the major report of the week comes out Friday. Statistics Canada is expected to report that the economy expanded at a four per cent annualized rate in the first quarter.

But BMO Capital Markets noted in a commentary that behind that strong number are several points indicating weakness, including slowing consumer spending amid higher food and energy prices, faltering consumer credit growth and increasing government spending restraint.

In the U.S., the prime data also comes out Friday when the U.S. Labour Department releases the May non-farm payrolls report.

"I'm looking at estimates in the 200,000 to 250,000 range on private sector employment, which would certainly be a continuation of the underlying decent trend, not great but decent, trend in job creation," said John Johnston, chief strategist, The Harbour Group at RBC Dominion Securities.

"And the trend in job creation is telling me that there is some underlying durability in the U.S. economy, more so than the pessimists would lead you to believe. But not enough to fuel the optimism that was there earlier in the year."

The second piece of economic data is the Institute for Supply Management's read on the U.S. manufacturing sector, which is expected to show continuing expansion but at a slower pace.

Economists expect the index to come in at 58, down from 60.4 in April, reflecting supply disruptions in the auto industry arising from the Japanese earthquake and tsunami. The disaster devastated a huge area of the country's northeast and caused massive power disruptions which have heavily impacted industrial activity.