The Bank of Canada made the widely expected move to lower its key interest rate by 50 basis points from 4.25% to 3.75%. This comes after three 25-basis-point cuts each in June, July, and September and is the first time that interest rates have been below 4% in two years.
With Canadian inflation now down to around 2%, the Bank of Canada has now said that its goal has shifted from lowering inflation to keeping it around its inflation control target range of 1% to 3%. The central bank says inflation will hover around the 2% range over its projection horizon which extends to 2026.
Larger rate cuts were necessitated by deteriorating economic conditions in Canada. Higher interest rates are good at cooling inflation, but to get there, higher interest rates have to slow economic growth and loosen the labour market.
Amidst higher interest rates, the Canadian economy expanded at a rate of just 1.1% in 2023, which is the lowest growth rate from 2016 (minus the 2020 contraction). Now, with interest rates coming down, the Bank of Canada expects domestic economic growth to slowly rebound over the coming years. This includes GDP inching up to 1.2% in 2024, 2.1% in 2025, and 2.3% in 2026.
What Will the Bank of Canada Do Next?
The Bank of Canada has cut its key interest rate by 125 basis points since June, many economists think the central bank will need to make another oversized, 50-basis-point rate cut when it meets next in December.
The reasons? The Canadian economy continues to struggle with growth and still-high interest rates, which continue to undermine consumer confidence and spending. To that end, the Bank of Canada cut its own forecast for third-quarter GDP growth to 1.5%. That’s down sharply from its previous forecast of 2.8%.
On top of that, lower interest rates are welcome news for the Canadian real estate market, but analysts believe the rate cuts have already been priced into many mortgage rates. Canada’s residential and commercial real estate market remains sluggish.
Lower interest rates are good for variable rate mortgages and could spur an early spring market. On the other hand, the lower interest rates are not low enough for commercial real estate developers to move forward with major projects. To do that, it is thought that interest rates need to fall 200 to 300 basis points. For context, we’re 125 basis points into the current interest rate cutting cycle.
To get to that level more quickly, real estate experts say the Bank of Canada will need to announce another 50-basis-point cut in December. Analysts at BMO, however, are a little more conservative in their outlook and expect the Bank of Canada to announce five more 25-basis-point rate cuts, bringing rates down to 2.5% by June 2025. That would bring interest rates down to within the Bank of Canada’s neutral rate of 2.25% to 3.0%.
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