Capital Economics forecasts the Bank of Canada would likely opt for a 25 basis point reduction in its policy rate in the upcoming meeting, despite recent economic data that could warrant a pause in rate cuts. The decision is influenced by the persistent threat of tariffs, which poses a risk to the economic outlook.
In December, the Bank of Canada made a close decision to reduce the policy rate by 50 basis points, a move that was debated against a smaller 25 basis point cut. The decision was aimed at reaching the upper end of the Bank’s neutral range estimate for the policy rate, which is between 2.25% and 3.25%. This was done to ensure the rate was not considered restrictive.
Following the rate cut in December, the Bank’s communication took on a less dovish tone, indicating a shift to a more cautious approach. The statement that the Bank expected to reduce the policy rate further was replaced with a message of evaluating the need for further rate reductions on a case-by-case basis. During the post-meeting press conference, Governor Tiff Macklem emphasized a gradual approach to policy easing.
Recent economic indicators have shown signs of growth, with monthly GDP data for October and the preliminary estimate for November suggesting a fourth-quarter growth rate of 2%, aligning with the Bank’s October forecast. Business and consumer surveys conducted by the Bank of Canada have also indicated that this positive momentum is likely to continue.
Despite the positive economic signals, the market is currently pricing in an 83% probability of a 25 basis point cut at the next meeting, with only a 17% chance that rates will remain unchanged. This suggests that concerns over tariffs and economic headwinds are weighing heavily on the Bank’s decision-making process.
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