As was widely expected, the Bank of Canada kept the overnight policy rate unchanged today at 5.00%, matching decisions in September and October.

There were plenty of good reasons to back the move. According to the Bank, “[h]igher interest rates are clearly restraining spending: consumption growth in the last two quarters was close to zero, and business investment has been volatile but essentially flat over the past year.” Indeed, growth in the year to Q3 2023 was slower than the Bank expected in its October Monetary Policy Report. Our tracking suggests real GDP growth in Q4 is likely to come in below the Bank’s projection as well (graph).

At the same time, “[t]he labour market continues to ease,” with the unemployment rate having risen modestly, the vacancy rate having fallen, and growth in the labour force outstripping job gains.  

Taken together, the Bank acknowledged that “… these data and indicators for the fourth quarter suggest the economy is no longer in excess demand.”

Meanwhile, the Bank recognized that “[t]he slowdown in the economy is reducing inflationary pressures in a broadening range of goods and services prices.” But the Governing Council mentioned still high shelter inflation as moving in the wrong direction while underlying inflation remains elevated. As such, “Governing Council is still concerned about risks to the outlook for inflation and remains prepared to raise the policy rate further if needed.” 

While today’s rate decision didn’t come as a surprise, the question now is: When are rates coming down? The policy rate remains at the highest level in over 20 years and well above the 2-3% range of the neutral interest rate (where the Bank thinks the policy rate will settle in the long run).

The Canadian economy is clearly buckling under the ongoing strain of high interest rates, and the impact of past hikes has yet to be felt fully. The Bank seems confident it has brought excess demand in the Canadian economy to heel. And we agree. Now it’s just a waiting game as the Bank of Canada surveys the impact of past hikes on the Canadian economy. We should get more details in the Bank’s updated forecast that will accompany the January 2024 rate announcement.

Once the Bank of Canada is satisfied that the economy has slowed enough to support a gradual return of inflation to its 2% target, we expect it to begin cutting interest rates. According to a recent report External link. This link will open in a new window. from our Macro Strategy team, “[c]entral bankers will likely need to see the unemployment rate around 6.5% AND inflation at or below 3% to begin cutting rates.” This is anticipated to happen by the second quarter of 2024, with cuts expected starting at the April 2024 meeting.