The Bank of Canada is set to make significant monetary policy decisions as it braces for the impact of potential U.S. tariffs, which could threaten the stability of the Canadian economy. Economists widely anticipate a 25-basis point rate cut when the Bank announces its decision on January 29, 2025. This expected decrease would lower the key policy rate to 3 percent, marking the sixth consecutive cut since June of last year, which has totaled 200 basis points slashed.
The backdrop of this decision is steeped in uncertainty driven by U.S. President Donald Trump's threats to impose tariffs of up to 25 percent on Canadian goods, set to take effect on February 1. Such actions have created apprehension among businesses and investors, leading economists to highlight the necessity for the Bank of Canada to tread cautiously as it navigates these economic waters. Thomas Ryan, an economist at Capital Economics, noted, "With tariffs clouding the economic outlook, we judge the Governing Council will opt for a 25bp policy rate cut."
Recent economic data shows Canada’s annual inflation rate at 1.8 percent, significantly influenced by the federal government's temporary GST tax break. Economists believe this reduction offers the Bank some leeway for another cut. Tu Nguyen, an economist from RSM Canada, remarked, "With inflation data, we saw all the numbers coming down, so that's a positive sign. We don’t expect inflation to go back up, and they are squarely in the two percent target right now, so it seems like the bank has enough room to have another cut." On the flip side, though, the threat of U.S. tariffs creates uncertainty which could undermine this hopeful outlook.
The Labour Market report adds to the complexity of the Bank's decision. Statistics Canada reported the addition of 91,000 jobs last month, with the unemployment rate dipping slightly to 6.7 percent. Despite these numbers, wage growth has been slowing, indicating restrained consumer spending power. Nguyen noted, "The latest jobs data from Statistics Canada also point to the likelihood of a modest cut this go-round."
While the overall economic environment suggests the need for intervention, there's also insistence on caution. Veteran economist Tim Lane, who previously served as the Bank's deputy governor, emphasized the balance the Bank ought to maintain. He mentioned, "You wouldn’t want to have a situation where the Canadian dollar seems to be in freefall. It’s one thing to have a shock absorber similar to the size of the shock. But if it seems like the markets are getting carried away, then it could call for different responses from the Bank of Canada."
Overall, the Bank of Canada’s Governor Tiff Macklem is expected to address the impact of these tariffs directly. He will reveal the Bank’s updated projections on inflation and the overall economic outlook within the monetary policy report, alongside the interest rate announcement. Analysts are particularly eager to understand how the Bank interprets the potential economic fallout from the tariffs and how it plans to navigate the uncertain terrain.
Economists hope the updated Monetary Policy Report will shed light on how deeply these tariffs could affect Canada’s economy. Anticipated scenarios will likely explore various outcomes if retaliatory measures are undertaken by the Canadian government. Jules Boudreau, Senior Economist at Mackenzie Investments, expressed optimism, stating, "I will be looking for the result of the scenario analysis (of tariffs) to see how much they think it will impact the Canadian economy, as well as their reaction to the stress test of such conditions."
Despite recent rate cuts, some experts argue the Bank should reconsider its approach due to the unique challenges presented by potential tariffs. Tony Stillo, director of Canada economics at Oxford Economics, emphasized, "Monetary policy is still exercised through risk management...and this is a risk which is remarkably complex." Stillo also addressed how external pressures might lead to inflationary effects and echoing concerns among businesses and consumers alike.
The upcoming announcement is seen as pivotal not just for the Canadian economy but for the overall market as observers brace themselves for how these decisions will shape the economic forecasts for 2025. With most modeling indicating significant risks if tariffs are enacted, maintaining confidence among Canadian consumers and businesses will prove important as policymakers grapple with decisions fraught with uncertainty.