On Wednesday, October 23rd, the Bank of Canada announced a rate cut of 50 basis points, marking the largest reduction since the early stages of the COVID-19 pandemic in March 2020, aligning with market expectations. This also marks the fourth consecutive rate cut by the Bank of Canada. Following this reduction, the current policy rate stands at 3.75%, down from 4.25% in September.
In June of this year, Canada initiated an easing cycle with a 25 basis point rate cut; subsequent meetings in July and September each saw a 25 basis point reduction as well. In the latest October meeting, the Bank of Canada increased its pace of reduction, implementing a 50 basis point rate cut.
The Bank of Canada's final interest rate decision for this year is scheduled to be announced on December 11th, with some economists predicting another 50 basis point rate cut at that time. Overnight swap traders are betting that the Bank of Canada will reduce its policy rate to around 2.75% by September 2025, which is the midpoint of the so-called neutral range.
Canada is a pioneer in this monetary easing cycle, being the first G7 country to cut rates. Following the Bank of Canada's June rate cut, the European Central Bank and the Federal Reserve also joined the rate-cutting ranks. The Federal Reserve made a significant 50 basis point rate cut in its September meeting.
The Bank of Canada stated that the timing and pace of future rate cuts will be guided by upcoming data. The bank reiterated that if economic development aligns with expectations, further rate cuts may be possible.
The significant rate cut by the Bank of Canada aims to stimulate the country's economic growth and bring the inflation rate closer to the 2% target. Canada's overall inflation slowed to 1.6% in September, with inflationary pressures in detailed items no longer as widespread as before, and inflation expectations are trending towards normalization. The Bank of Canada considers the slowdown in business/consumer spending to be the greatest downside risk to CPI.
The signal conveyed by the Bank of Canada is that the high inflation of the post-pandemic era has come to an end. Bank of Canada Governor Tiff Macklem stated:
All of this indicates that we have returned to low inflation levels. Our focus now is on maintaining low and stable inflation levels. We need to stabilize the situation. The Bank of Canada now believes that the upside and downside risks to its inflation forecasts are "fairly balanced."
We want to see economic growth strengthened. Today's interest rate decision should help demand rebound. We have taken a larger step today because inflation has now returned to the 2% target, and we want it to stay near the target.
The Bank of Canada's latest forecast suggests that a so-called soft landing will be achieved, where inflation normalizes without a severe economic recession:The Bank of Canada has revised down its CPI expectations, forecasting a CPI of 2.5% for 2024, 2.2% for 2025, and 2% for 2026. It is anticipated that core inflation will gradually cool down, and upward pressure on inflation from housing and services is also expected to further diminish.
The Bank of Canada's GDP forecasts show little change, with GDP growth expected to be 1.2% in 2024, 2.1% in 2025, and 2.3% in 2026.
The Bank of Canada noted that although the country's economic growth in the second quarter was slightly higher than predicted in July, there seems to be a weakening in economic growth in the third quarter. The Canadian economy continues to suffer from a surplus of supply, with insufficient demand for goods and services produced, a still weak labor market, and population growth outpacing job growth.
Driven by the decline in interest rates, the Bank of Canada expects consumer spending and business investment to strengthen. Additionally, due to measures taken by Canadian Prime Minister Trudeau to curb the influx of new immigrants, population growth is also expected to slow down.
The Bank of Canada continues to implement quantitative tightening (QT). The Bank stated that quantitative tightening is moving in the right direction, and there are no immediate plans for adjustment.
After the Bank of Canada's 50 basis point rate cut, the Canadian dollar showed little fluctuation, and Canadian government bonds rose sharply in the short term:
The US dollar against the Canadian dollar showed little short-term fluctuation, trading at 1.3838.
The yield on Canadian 2-year government bonds fell to an intraday low, plunging more than 2 basis points in the short term, to 2.995%. On September 17th, the day before the Federal Reserve announced a 50 basis point rate cut, it had fallen to 2.854%.
Analysts believe that the Bank of Canada's 50 basis point rate cut indicates that the country's monetary policy has entered a new phase. Policymakers will focus on restoring interest rates to a more neutral level, where borrowing costs neither restrict nor stimulate economic growth. This approach can prevent the economy from slowing down too much and keep the inflation rate from falling below the target.