Strong Canadian Economic Data Increases Odds of Interest Rate Pause

The Bank of Canada cut its key lending rate, which sets interest rates, five times in 2024, from 5% in May to 3.25% in December. Despite the big drop in interest rates, policymakers had forecast that the central bank could be even more aggressive with its interest rate cuts in 2025. That now seems in doubt. In, fact, there is a good chance the Bank of Canada will pause interest rate cuts over the short term.

Why? Canada’s labor market ended 2024 on a strong note, adding nearly quadruple the number of jobs Bay Street was calling for. According to Statistics Canada, the Canadian economy added a net 91,000 jobs in December, most of which was full-time work. The unemployment rate also dipped to 6.7%. Analysts were expecting a net gain of 25,000 jobs and the unemployment rate to rise to 6.9%.

What Will The Bank of Canada Do Next?

The strong jobs data shows that while the Canadian economy is hardly firing on all cylinders, the economy is improving and headwinds from high inflation and high interest rates are abating. This should result in the Bank of Canada pulling back from its aggressive interest rate cuts in 2025, which are designed, in part, to juice growth. Too many interest rate cuts could, of course, reignite inflation.

That doesn’t mean the Bank of Canada won’t cut interest rates in 2025. High unemployment still needs to be addressed. Further interest rate cuts could address that excess capacity. And that number could rise in the near term.

President-Elect Donald Trump has promised to impose 25% tariffs on Canadian exports. Statistics Canada also noted that 1.8 million Canadian workers work in industries that are heavily reliant on U.S. demand. The majority of those jobs are in Alberta and are tied to the oil and gas industry.

The Bank of Canada still wants to get interest rates down to 2%, which implies additional cuts of 125 basis points, or 1.25%. The easing path will be determined by how the Canadian economy does in the opening months of 2025 and if there is a trade war with the U.S.

Before the December jobs data came out, Bay Street put the odds of a 25-basis-point cut at its January 29 meeting at 70%. After the data came out, the odds of an interest rate cut or pause were equal.

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