The Bank of Canada is facing uncertainty as it prepares to announce its interest rate decision due to the ongoing trade war with the United States. Most economists expect the central bank to deliver another quarter-point rate cut as it waits to see how long the trade dispute will last. The Bank of Canada is in a difficult position of setting monetary policy amidst signs of stubborn inflation and a growing economy, while also facing risks of a sharp downturn due to U.S. tariffs. The exact nature of the tariffs imposed by U.S. President Donald Trump on Canadian goods has shifted with pauses and amendments, making it difficult to predict the impact on the Canadian economy.
The consequences of a prolonged trade war with the U.S. could have harsh effects on the Canadian economy, with inflation likely to rise in the near-term and job losses in hard-hit sectors potentially leading to a recession by mid-year. The Canadian economy had been showing signs of recovery heading into 2025 with a surge in retail activity, but the unexpected tariffs imposed on Canadian goods have disrupted this trajectory. Financial markets were leaning towards a quarter-point rate cut prior to the tariffs, with odds of a hold or cut being essentially a toss-up, showing the uncertainty surrounding the situation.
Bank of Canada governor Tiff Macklem warned that if tariffs are broad-based and long-lasting, the Canadian economy may not see a bounce back as it did during the recovery from the COVID-19 pandemic. The central bank aims to help smooth the impact of the tariffs on the economy while keeping inflation expectations anchored around the two per cent target. While rate cuts cannot solve the tariff issue, they can help the economy transition through the turbulence caused by the trade war. CIBC expects the Bank of Canada to deliver a quarter-point cut, with more cuts likely to follow if trade uncertainty persists.
Desjardins Group deputy chief economist Randall Bartlett expects the Bank of Canada to provide support to the Canadian economy with a 25-basis-point rate cut, while holding back from anything larger until the impact of the tariffs becomes clearer. The central bank may be limited in how low it can take its policy rate due to concerns about the Canadian dollar. The loonie is vulnerable to hits from the trade war and a widening policy rate differential between Canada and the U.S., with a sharp drop in the policy rate potentially leading to inflation surges on imported goods from the U.S. Overall, the Bank of Canada faces a challenging decision in light of the uncertainties surrounding the trade war and its potential impact on the Canadian economy.
