Economic commentary provided by Alberta Central Chief Economist Charles St-Arnaud.
Bottom line
The Bank of Canada cut its policy rate by 25bp to 3.00% and will end quantitative tightening (QT), which is in line with our expectations.
However, the lack of forward guidance will grab the attention in today’s announcement. This suggests either that 1) the BoC believes that it has cut enough over the past year to stimulate the economy enough or 2) the level of uncertainty around the outlook, especially given the tariff threat, is too elevated to be able to provide any guidance. We believe that the second reason is more likely.
As the Governor mentioned in his introduction statement, the BoC’s response to tariffs could be either hiked or cut. The appropriate reaction will depend on the tariff scenario (size, length, retaliations, etc.) and whether the deflationary pressures from lost input are more important or whether the inflationary pressures from tariffs themselves are bigger.
Overall, we believe that the general direction for interest rates is lower and that another cut at the March meeting is likely. As we wrote (see Searching for the terminal rate), lower population growth in 2015 and 2016 will be an important drag on the economy, pushing potential growth and the neutral rate lower. This means that at 3.00%, the current policy rate level will become restrictive as population growth slows.
As expected, the BoC cut its policy rate by 25bp to 3.00%. It also said it will end its balance normalization or quantitative tightening policy. The BoC adds, “The cumulative reduction in the policy rate since last June is substantial.” However, the BoC did not provide any guidance on the potential direction of future interest rate decisions. This seems to be due to the uncertainty regarding the economic outlook, especially given that “the resilience of Canada’s economy would be tested” by the imposed tariffs. Nevertheless, the BoC adds that “setting aside threatened US tariffs, the upside and downside risks around the outlook are reasonably balanced.”
In the updated Monetary Policy Report, the global economy “is expected to continue growing by about 3% over the next two years.” The Bank notes that the US economy “has been revised up, mainly due to stronger consumption.” While European growth remains subdued, the central bank notes that policy actions in China “are boosting demand and supporting near-term growth, although structural challenges remain.” The BoC notes, “Global financial conditions have diverged,” with a tightening in the US but a slight loosening in Canada. The BoC also notes that the Canadian dollar has depreciated significantly due to the heightened uncertainty and broad-based strength in the US dollar.
The BoC notes that “past cuts to interest rates have started to boost the economy.” With this, the central bank notes an improvement in household spending and the housing sector. However, business investment remains weak, while exports have been boosted by higher capacity in the oil and gas sector. The Bank notes that the labour market remains soft despite the recent strength in recent months, and wage pressures are easing.
The Bank’s next forecast was revised lower to incorporate the federal government immigration targets, and, as a result, GDP growth and potential growth were both revised lower to 1.8% growth in both 2025 and 2026, from 2.1% and 2.3%, respectively.
The BoC expects inflation to remain close to 2% over the coming years. The BoC also notes that the GST holiday will lead to some temporary volatility. All things considered, the BoC continue to believe that a broad set of inflation indicators suggest that underlying inflation is close to 2%.
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Independent Opinion
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