Capital Economics predicts the Bank of Canada is likely to decide to cut its benchmark rate by 25 basis points at its upcoming meeting, despite recent economic data that could justify a pause in rate cuts. The decision is influenced by the constant threat of tariffs, which poses a risk to the economic outlook.
In December, the Bank of Canada made a close decision to cut the benchmark rate by 50 basis points, a move that was debated against a smaller cut of 25 basis points. The decision was aimed at reaching the upper limit of the neutral range of the Bank’s assessment of the reference rate, which is between 2.25% and 3.25%. This is done to ensure that the rate is not seen as restrictive.
After the interest rate cut in December, the Bank’s communication took on a less relaxed tone, indicating a shift towards a more cautious approach. The statement that the Bank expects a further reduction of the reference rate has been replaced by a message on the assessment of the need for a further reduction of the interest rate on a case-by-case basis. During a press conference after the meeting, Gov. Tiff Macklem emphasized a gradual approach to easing the policy.
Recent economic indicators are showing signs of growth, with monthly GDP data for October and a preliminary estimate for November suggesting a fourth-quarter growth rate of 2%, in line with the Bank’s October forecast. Business and consumer surveys conducted by the Bank of Canada also indicated that this positive momentum is likely to continue.
Despite the positive economic signals, the market is currently pricing in an 83% chance of a 25 basis point cut at the next meeting, with only a 17% chance that rates will remain unchanged. This suggests that concerns about tariffs and economic barriers are weighing heavily on the Bank’s decision-making process.
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