29 Jan 2025

• Bank of Canada (BoC) is expected to cut its policy rate by 25 bps.
• The Canadian Dollar remains on the defensive against the US Dollar.
• Headline inflation in Canada remains below the bank’s 2% target.
• The BoC will also release its Monetary Policy Report (MPR)
• The focus is directed towards the Bank of Canada (BoC) this Wednesday, as there are widespread anticipations regarding a reduction in its policy rate for the sixth consecutive meeting. This time, however, the discussions center on a possible cut of 25 basis points—a more modest adjustment compared to the previous meetings—which would result in a benchmark rate of 3.00%.
  
  In the meantime, the Canadian Dollar (CAD) has entered a phase of consolidation since mid-December, aiming to stabilize after reaching yearly lows above the 1.4500 mark against the US Dollar (USD), following a significant decline that began with the so-called “Trump trade” in October.
• Canada's inflation narrative presents a compelling aspect to the Bank of Canada's interest rate decision. In December, the annual inflation rate, as indicated by the headline Consumer Price Index (CPI), experienced a second consecutive decline, falling to 1.8%. While the core CPI of the Bank of Canada saw a slight increase last month, it continues to fall short of the central bank's target.
• The Bank of Canada is anticipated to adopt a bearish stance despite the expected rate cut. This outlook is influenced by a backdrop of declining inflation, a weakening labor market, and GDP figures that are closely aligned with the bank's latest projections.
  
  In the Business Outlook Survey released on January 20, Canadian businesses expressed a cautious optimism regarding the upcoming year. They foresee improved demand and enhanced sales, partly attributed to the recent rate reductions. Nevertheless, many remain vigilant about potential repercussions from forthcoming policies in the United States.
  
  The Minutes published on December 23 indicate that the decision to reduce rates by 50 basis points on December 11 was a closely contested one, with some members of the governing council favoring a smaller adjustment. The discussions centered on whether a cut of 50 or 25 basis points would be more appropriate. Proponents of a larger cut were particularly worried about lower growth forecasts and the risks associated with inflation. However, they conceded that not all recent data justified such a bold action.
  
  In the end, the choice to implement a 50 basis point cut was influenced by a more pessimistic growth outlook than previously expected in October, along with the understanding that monetary policy no longer needed to be strictly restrictive.
• The central bank has reduced its key policy rate to 3.25% in light of a deceleration in economic growth. Governor Tiff Macklem indicated that any forthcoming rate reductions would be more cautious, representing a departure from previous assertions that highlighted the necessity for ongoing easing to support the economy.
  
  In anticipation of the Bank of Canada's interest rate decision, Nathan Janzen, Assistant Chief Economist at the Royal Bank of Canada, remarked: "The Bank of Canada is anticipated to implement interest rate cuts at a more measured pace of 25 basis points on Wednesday, following reductions of 50 basis points in each of the two preceding meetings. This approach will further widen the disparity with U.S. policy rates, as the Federal Reserve is largely expected to refrain from a rate cut in January. The Bank of Canada clearly articulated in its December policy announcement that, with the interest rate no longer deemed 'restrictive,' the future pace of rate cuts would likely be more gradual and dependent on economic indicators. We maintain our expectation that the Bank of Canada will ultimately need to lower the overnight rate to a slightly stimulative 2% this year."