Bank of Canada cuts rate by 25 basis points

The Bank of Canada on Wednesday, Sept. 4, trimmed its key policy rate by 25 basis points to 4.25 per cent as forecast and Governor Tiff Macklem, citing weak growth, said a larger cut could be in order if the economy needs a boost.

The bank had held its benchmark rate at a two-decade high of 5 per cent for a year until June when it started the easing cycle.

Wednesday marked the third consecutive cut, with the bank citing continued easing in broad inflationary pressures.

Overall inflation fell to a 40-month low of 2.5 per cent in July, still above the BoC’s target of 2.0 per cent. But the economy now looks to be weaker than the bank had forecast just six weeks ago.

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“With inflation getting closer to the target, we need to increasingly guard against the risk that the economy is too weak and inflation falls too much,” Macklem said.

Second-quarter growth was better than expected at 2.1 per cent but it flattened out in June and is likely to be anemic in July. Growth could fall short of the 2.8 per cent annualized third-quarter advance the bank projected in July, economists say.

Macklem echoed their comments at a press conference, saying that while he expects growth to pick up in the second half of the year, there could be some risks to the projections.

A weakening economy has hurt the country’s ability to absorb a sharply rising workforce, leading to a rise in unemployment, prompting calls for continued rate cuts.

Some economists are predicting that slow growth could prompt the bank to go for a jumbo cut of 50 basis points in October or December. Macklem said a bigger cut was possible if the economy weakened more than expected.

“We will be assessing the data as it comes out, and (if) we need to take a bigger step, we’re prepared to take a bigger step,” he said.

Financial markets see a 93 per cent chance of a rate cut of 25 basis points in October while a rate reduction in December is fully priced in.

“With growth faltering instead of picking up as officials had forecast back in July, the risk is that central bankers will need to slash rates in October by 50bps instead of 25bps to spur a recovery,” Royce Mendes, head of macro strategy at Desjardins Group, wrote in a note.

Since July, the six-member governing council has pivoted from seeking only to control inflation to supporting the economy even as it fights resilient inflation in some pockets.

“Overall weakness in the economy continues to pull inflation down,” Macklem said, adding that stubbornly high price pressures in shelter and some services were holding inflation up.

If inflation continues to ease broadly in line with the bank’s July forecast, it is reasonable to expect further rate cuts, he said.

The Canadian dollar pared early losses and was up 0.1 per cent to 1.3538 against the U.S. dollar, or 73.87 U.S. cents, while yields for two-year Canadian government bonds fell 5.2 basis points to 3.193 per cent after the release of the decision.

The BoC will announce its next decision on Oct. 23 and also update its economic projections.

The last time the bank cut rates on three consecutive scheduled announcement dates was in 2009, during the global financial crisis.

The BoC became the first G7 central bank to start cutting rates.

The European Central Bank followed with a rate cut in June, but has held steady since then. It is widely expected to cut this month.

Markets are pricing in the first rate reduction by the U.S. Federal Reserve this month.