“What do we need to see to be convinced it’s time to cut? The short answer is we are seeing what we need to see, but we need to see it for longer to be confident that progress toward price stability will be sustained.”

‒Tiff Macklem, Governor of the Bank of Canada, April 10, 2024 rate announcement

The Bank of Canada has found what it was looking for. The long awaited pivot to lower interest rates finally arrived this morning. The Bank lowered its trendsetting policy rate from 5% to 4.75%, the first cut since the pandemic.

The clincher in our view were the last two inflation reports - both showing progress on core inflation. We included this chart in our Wrap last week showing the progress on the median measure (same trend for trim). Here it is again.

The Bank is now confident that policy is restrictive enough, and inflation is trending towards 2%, that it could finally pull the trigger.

We were leaning towards the Bank cutting today and have been in the June cut camp since last December. We argued that the Bank had ample evidence to justify a cut. The question was just how cautious would Tiff Macklem and company be?

These decisions are never easy, but we see this as the right call. Holding longer would have added drag to an already struggling economy, increasing the risk of a recession. Cutting also carries the risk that inflation could reignite (especially shelter costs). But that latter risk is the smaller of the two in our view. The economy has built up some excess capacity and inflationary pressures have eased. Even as rates grind lower, policy will be restrictive as households and businesses renew loans at higher rates.

In the end, economic conditions and inflation itself were weak enough to justify a rate cut.

The Bank of Canada started its rate hiking cycle in March 2022, lifting its policy rate from 0.25% to 5% - the most aggressive and prolonged rate increase since the Bank started inflation targeting in the early 1990s. It’s been sitting at 5% since July 2023.

What’s next? Expect the Bank to proceed cautiously. They will be very data dependent, keeping a close eye on inflation readings. Hiking again is very unlikely, but they could pause at 4.75% for longer if inflation remains a threat. They won’t move again until they have more evidence the trend is holding.

Our current forecast calls for two more 25 basis point cuts this year, and three 25 point cuts next year. We have the policy rate settling in at 3% later in our forecast - so higher for longer than before.

Those with variable rate loans will see some relief soon. As for longer term fixed rates, it will depend on how the market reacts and whether (and how) much longer-term yields move lower. So far there has been a small reduction in 5-year bond yields, but it will take some time for the market to digest.

The forward talk in the statement leans a bit dovish in our view. The Bank says “risks to the inflation outlook remain,” but the statement is very clear that they are more confident about the inflation trend: “recent data has increased our confidence that inflation will continue to move towards the 2% target.”

The pivot should improve consumer confidence and housing activity. Not only are rates now moving lower, but Canadians may see this as a sign that the inflation problem will soon move into the rearview mirror.

Tom Petty famously said “the waiting is the hardest part.” He’s right, and the wait is finally over for the first cut. But rates are still much higher than before and borrowers will be waiting for the next one.

Bottom line: At last, the Bank of Canada pulled the rate cut trigger - a clear sign that it’s confident about the path of inflation back to 2%. But we expect a fairly slow grind down as the Bank has been clear that the battle against inflation is not completely won. Higher interest rates will continue to weigh for some time as loans reset at higher rates than before. But at least the tide has turned - something that will help restore confidence and improve growth prospects in late 2024 and into next year.

Answer to the previous trivia question: The Edmonton Oilers have made it to their eighth Stanley Cup final in franchise history.

Today’s trivia question: When was the last time the Bank of Canada lowered its policy interest rate?