–BOC Keeps Policy Rate at Roughly Neutral 2.75% After 7 Rate Cuts Totaling 225 Basis Points from June 2024 Until March 2025
BOC: May Need a Rate Cut If Slower Growth, Easing Trade Friction Lead to More Controlled Inflation
–Governor Macklem: Still Proceeding Carefully, Hard to Be as Forward-Looking as Normal
–Mackem: Taking Policy Decision One Meeting at a Time when Asked if Further Rate Cut Likely by Yearend
By Max Sato
(MaceNews) – The Bank of Canada on Wednesday maintained its policy interest rate – the target for overnight lending rates – at a roughly neutral level of 2.75%, as widely expected, pausing for the third straight meeting in the current easing campaign launched over a year ago, in the face of sticky core inflation and still uncertain net effects of U.S. trade conflicts on economic growth and costs.
Looking ahead, the bank left the door open for a further rate cut at an unspecified timing to protect the Canadian economy from the “permanent” drag from the high import duties slapped by President Trump until they are removed but only on condition that the upward pressures on consumer prices sparked by the tariffs are contained.
“We will continue to assess the timing and strength of both the downward pressures on inflation from a weaker economy and the upward pressures on inflation from higher costs related to tariffs and the reconfiguration of trade,” the bank said in a statement. “If a weakening economy puts further downward pressure on inflation and the upward price pressures from the trade disruptions are contained, there may be a need for a reduction in the policy interest rate.”
As in the previous rate decision on June 4, the panel of seven policymakers at the bank reached a “clear consensus” to hold rates (they don’t vote), Governor Tiff Macklem said, also repeating that Governing Council is “proceeding carefully” amid lingering uncertainty as Ottawa and Washington continue negotiating for a trade deal.
“At this rate decision, there was clear consensus to hold our policy rate unchanged,” Macklem said. “We also agreed that we need to proceed carefully, with particular attention to the risks and uncertainties facing the Canadian economy.” Those factors are: the extent to which higher U.S. tariffs reduce demand for Canadian exports; how much this spills over into business investment, employment and household spending; how much and how quickly cost increases are passed on to consumer prices; and how inflation expectations evolve.
Asked if the bank is likely to lower the policy rate further by the end of the year, Macklem said, “We are going to take our decisions, one decision at a time.” He also repeated his earlier remarks that the bank’s policymakers “are ready to respond to new information.”
In its quarterly Monetary Policy Report, the bank presented three scenarios, instead of providing conventional medium-term forecasts for growth, inflation and other key economic indicators, compared to two scenarios in the April report.
In its standard “current tariff” scenario, growth resumes following the second-quarter contraction (-1.5% annualized) in payback for rush exports to the key U.S. market in the first quarter (GDP +2.2%) before the Trump tariffs kicked in.
The governor told a news conference that the third quarter GDP is unlikely to show a sharp rebound. The BOC expects Canada’s GDP growth to be a “modest” 1% in the second half of this year as exports stabilize and household spending increases gradually. The scenario then has growth picking up further in 2026 and reaching 1.8% in 2027.
In the de-escalation scenario, lower tariffs improve the growth outlook and reduce the direct cost pressures on inflation while in the escalation scenario, higher tariffs weaken the economy and increase direct cost pressures.
In all of the three scenarios, GDP growth will slump and then picks up but it will not exceed 2%, the governor said, noting “GDP is on a permanently lower path owing to tariffs.”
“Unfortunately, the sad reality is that tariffs mean the economy is going to work less efficiently,” Macklem said “It means there is going to be less income, so there’s going to be less consumption.”
“The tariffs are going to have a permanent effect on the economy unless they are removed,” he said.
On the inflation front, the current tariff scenario shows upside and downside pressures are roughly balance out, so inflation remains close to 2%. “There are reasons to think that the recent increase in underlying inflation will gradually unwind,” Macklem said.
He explained that the Canadian dollar has appreciated, which reduces import costs. Growth in unit labour costs has moderated, and the economy is in excess supply. At the same time, tariffs impose new direct costs, which will be gradually passed through to consumers.
Macklem said “a range of indicators suggest underlying inflation has increased from around 2% in the second half of last year to around 2.5% more recently,” largely reflecting an increase in prices for goods other than energy. Shelter cost inflation remains the biggest contributor to CPI inflation, but it continues to ease. Surveys indicate businesses’ inflation expectations have fallen back after rising in the first quarter, while consumers’ expectations have not come down.
“When we are taking our monetary policy decisions, we are really thinking about where inflation is going to go,” the governor said. “If inflation is currently at 2.5%, but if we think that the evidence is suggesting that inflation pressure is unwinding and we are heading back to 2%, yes, we are comfortable.”
On the other hand, he said, “If we think inflation pressures are building further and we are moving further away from the target, we are uncomfortable.”
“It’s hard to be as forward-looking as usual, and that’s why we presented three scenarios,” he said.
In the bigger picture, the paradigm shift has already happened several years ago, with European voters elected right-wing populist governments in 2016, when Americans sent Donald Trump to the White House, some hoping things would turn for the better.
In response to a question on how the recent trend to reverse more open global trade and immigration, Macklem replied, “Some segments of society feel like they’ve lost out. That is having political consequences.”
“There is no question that the new U.S. administration, President Trump, has dramatically increased U.S. protectionism, the effective U.S. tariff rate with agreements that have been reached has increased significantly,” he said. “And that is going to have an impact on the world economy.”
“But even before President Trump was elected (for the second time), trade had seen a shift,” he said. “(During) The first Trump administration, the Biden administration, there were more restrictions on trade, and around the world, trade needs to factor in national security in a way that it hasn’t as much in the past.”
“In the past, you could really optimize purely for efficiency, but now you have to think about national security. The world is fragmenting and that is going to have an impact,” the governor warned.
The trade environment has been shifting and Canada needs to think about its place in the global trading economy, the governor said. Canada has been “very concentrated in our trade with the United States…for a long time” but “there are opportunities to diversify our trade.”
The Canadian government under Prime Minister Mark Carney, former governor of the Bank of Canada and the Bank of England, is “articulating plans to try to reduce inter-provincial barriers,” Macklem said.
“That should help grow our internal market, help get our goods to tidewaters so we could get them to other countries,” he said. “These are the kinds of things we need to be thinking about. The message is the world is changing.”