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Steve Huebl, June 3, 2024     published  by Canadian Mortgage Trend

While the odds of a Bank of Canada rate cut this week have risen, some experts admit the decision could still go either way.

Bond markets have priced in over 80% odds of a quarter-point rate cut on Wednesday following the latest GDP data showing Canada’s economy is slowing.

However, some economists remain unconvinced the BoC is ready to start easing just yet.

“We forecast a hold and put higher odds on a cut in July—or later. Sooner and bigger cuts face higher risk of becoming policy error,” wrote Sotiabank economist Derek Holt. “There is nothing to gain from rushing into a cut at this meeting. There is much to be gained by a more complete assessment in July.”

Rate expert and mortgage broker Ryan Sims recently published a blog post critical of Statistics Canada’s latest downward revision to fourth quarter GDP data, and the implications of the Bank of Canada cutting rates in a technically rising GDP environment.

“There are too many conflicting indicators right now to justify a 25-bps reduction,” he wrote. “Should the BOC cut rates, they risk fanning the inflation flames, and undoing all of the work they did over the last 28 months to try and cool things off.”

James Orlando, senior economist at TD Economics, points out that the Bank of Canada hasn’t given any indication it’s ready to lower rates just yet.

“This central bank has a track record of clearly communicating its intentions before implementing monetary policy changes,” he explained. “To maintain this transparency and forward guidance, we anticipate that the BoC will hold rates steady [this] week and use the meeting to set the stage for a potential rate cut in July.”

“Nonetheless, expect some surprises, as the BoC’s decision could go either way,” he added.

Indeed, there are compelling arguments for both a rate hold and a rate cut this week. Here’s a look at some of them:

Reasons why the Bank of Canada may cut rates

  • Softening inflation

Recent data show inflationary pressures are easing, providing the Bank of Canada with more room to lower rates without stoking inflationary fears.

The Bank’s preferred measures of core inflation have posted four consecutive months of decline. And as National Bank and others have argued, if mortgage interest costs weren’t included in the BoC’s CPI calculations—a measure known as CPI-X—inflation would have been below the Bank’s 2% inflation target since February.

  • Sluggish economic growth

Canada’s GDP growth flat-lined in March, resulting in a slower-than-expected growth rate for the first quarter. At the same time, StatCan sharply revised down previously released fourth-quarter growth from +1% to just +0.1%

Together, this indicates underlying economic weaknesses and “removes the last potential barrier preventing the BoC from easing off the monetary policy brakes with an interest rate cut next week,” wrote RBC Economics assistant chief economist Nathan Janzen.

Scotiabank’s Holt adds that the lagged impact of rate cuts on growth and inflation are one reason in support of easing rates sooner rather than later.

  • Rising unemployment

A rate cut could help stimulate economic activity and job creation, addressing concerns over Canada’s unemployment rate, which has risen to 6.1% as of April from 5% just a year ago.

High unemployment rates are a leading contributor to higher mortgage delinquencies.

  • Household debt relief

Lowering interest rates would reduce the debt-servicing costs for households, providing relief to consumers and, in particular, mortgage borrowers.

With 76% of outstanding mortgages expected to come up for renewal by the end of 2026 and payment shock expected to lead to a rise in mortgage delinquencies, the longer rates remain elevated, the more financial strain households are likely to experience.

Assuming no change in interest rates by then, the median payment increase for all mortgage borrowers would be over 30%, while fixed-payment variable-rate borrowers would see their payments rise by over 60%, according to Edge Realty Analytics founder Ben Rabidoux.

I think things are about to get ugly if we don’t see [Bank of Canada rate cuts soon],” he said during a recent presentation at the Canadian Alternative Mortgage Lenders Association symposium.

Reasons why the Bank of Canada may delay cutting rates

  • Canada’s tight linkage to the U.S.

Canada’s economy is closely tied to the United States, its largest trading partner. Significant deviations in monetary policy between the two countries can have substantial implications for the Canadian economy.

While the U.S. Federal Reserve has compelling reasons to maintain its rates for a few more months—high inflation and a robust job market south of the border—the Bank of Canada has to carefully consider the potential risks of diverging too quickly or too drastically from U.S. policy.

One major risk of the Bank of Canada moving ahead with a rate cut too soon is a potential depreciation of the Canadian dollar. While a weaker dollar might benefit exporters by making Canadian goods cheaper for foreign buyers, it can also increase the cost of imports, fuelling domestic inflation.

Diverging from U.S. monetary policy could affect investor confidence. If investors perceive Canada as taking a more aggressive approach to rate cuts, it might lead to capital outflows as investors seek higher returns in the U.S.

  • Tiff Macklem’s own guidance

As mentioned above, Bank of Canada Governor Tiff Macklem generally tends to provide forward guidance to markets ahead of key shifts in policy.

In recent testimony before the House of Commons Standing Committee on Finance in early May, Macklem said the BoC would be “closely watching” the evolution of core inflation in the months (plural) ahead.

“The June 5 decision will only be one month since he said that, and so he would significantly contradict his own guidance if he cut now, which wouldn’t help the central bank restore some credibility around its forward guidance tool after the experiences during the pandemic,” noted Holt. “If he wanted to tee up June cut pricing, then he either wouldn’t have made such a reference or would have made it sound more imminent.”

  • The benefit of additional economic data

Delaying a rate cut until July would give the central bank the benefit of an additional month’s worth of economic data, providing a clearer picture of economic trends and conditions. This extra time would allow the Bank of Canada to assess more recent data on key indicators such as inflation, employment, consumer spending, and business investment.

“By the July meeting, the BoC will be able to evaluate two more rounds of data on inflation, job growth, wages, April GDP, and several other lesser readings,” Holt noted. “That’s a big data advantage over the June meeting and—if all goes well—would tick Macklem’s requirement for ‘months’ of further evidence.”

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