On June 5th, 2024, the Bank of Canada implemented a 25 basis point (bp) cut in its policy rate, reducing it to 4.75%. This move was largely anticipated due to weaker-than-expected GDP data from the first quarter, despite a solid 3% annualized rise in consumption. The central bank’s statement indicated that the overall GDP growth was slower than expected, suggesting an accumulation of excess supply in the economy.

Expectations for July Rate Announcement

The dovish tone of the Bank’s communication hints at another rate cut in July. Governor Tiff Macklem and Senior Deputy Governor Carolyn Rogers have downplayed concerns about the impact of rate cuts on the exchange rate, even if the Bank of Canada’s actions diverge from those of the Federal Reserve. Capital Economics suggests a strong likelihood of continued rate reductions throughout the year, with 25 bp cuts anticipated at each meeting, potentially bringing the policy rate to 3.75% by the end of 2024.

Inflation Data and Its Implications

However, recent inflation data has introduced some uncertainty into these expectations. As of May, Canada’s annual inflation rate unexpectedly accelerated to 2.9%, driven by higher prices for services such as cellular services, travel tours, rent, and air transportation​. This surprise acceleration in headline inflation was accompanied by increases in the Bank’s preferred measures of underlying inflation, CPI-median and CPI-trim, which rose for the first time in five months​.

Analysts had forecasted a cooling of inflation to 2.6%, but the consumer price index rose by 0.6% month-over-month, exceeding the expected 0.3% rise​​. Despite these inflationary pressures, money markets still see a nearly 70% chance of a rate cut on July 24, as the Bank will have another month of inflation data to consider before making its decision​.

Governor’s Stance and Economic Indicators

Governor Macklem’s cautious optimism during the recent press conference highlights the conditional nature of future rate cuts. He emphasized that further cuts are reasonable, provided that inflation continues to ease. The Bank will make decisions on a meeting-by-meeting basis, heavily influenced by CPI data rather than GDP growth alone. Macklem’s remark that “with the economy in excess supply, there is room for growth even as inflation continues to recede” underscores the Bank’s focus on inflation metrics.

Core Inflation and Policy Trajectory

Given the muted core inflation pressures, another rate cut next month seems highly probable. The Bank’s strategy appears to be aimed at achieving a policy rate within the 2.25% to 3.25% neutral range estimate. However, projections suggest that the policy rate might eventually settle at 2.5% by 2025, influenced by shifts in immigration policy starting next year.

Despite the inflation concerns, several economists remain confident in the likelihood of a July rate cut. Royce Mendes, head of macro strategy for Desjardins Group, and Andrew Grantham, senior economist at CIBC, both expect a rate cut in July, citing the slower-than-expected economic growth in the first quarter and the Bank’s focus on managing the supply and demand mismatch​​. Additionally, Scotiabank projects a total of 100 basis points of easing this year, with another cut anticipated in July.

Risks and Considerations

One domestic risk associated with a looser monetary policy is the potential revival of the housing market. Historical patterns advise caution, but recent data from local real estate boards indicate continued weakness in sales and an increase in new listings, mitigating immediate concerns. Additionally, the Bank acknowledges a limit to how much it can diverge from the Federal Reserve’s actions. If the Fed refrains from cutting rates, the Bank of Canada may also reduce the frequency or magnitude of its rate cuts.

The upcoming rate announcement on July 24th is anticipated to include another 25 bp cut, as the Bank of Canada continues its efforts to stimulate the economy amidst subdued GDP growth and inflation pressures. The central bank’s cautious yet proactive stance aims to balance growth and inflation, with a flexible approach to future policy decisions based on evolving economic indicators.