By BofA Global Research, on Wednesday, projected that the Bank of Canada (BoC) will lower its overnight rate target by 25 basis points to 4.25% on September 4, citing persistent economic weakness, rising unemployment, and a consistent downward trend in inflation.
This anticipated move aligns with the pattern of softening economic indicators, with expectations of the rate reaching 3.75% by the end of the year and 3.0% by the end of 2025.
The Canadian economy has shown signs of frailty, as evidenced by the modest month-over-month GDP growth of 0.2% in May and a preliminary estimate of 0.1% in June. Retail sales in June declined by 0.3%, although core retail sales increased by 0.4%. However, a preliminary figure suggests a rebound in July with a 0.6% rise.
BofA Global Research anticipates a second-quarter GDP growth of 2.0% on a seasonally adjusted annual rate, which is close to the trend but still indicative of an overall sluggish economy.
The labor market has not fared much better, with employment numbers falling for the second consecutive month in July and wage growth decelerating. The unemployment rate remained elevated at 6.4%.
While full-time employment saw an increase in July, this was offset by a decrease in part-time jobs, signaling a potential shift in employment trends but still underpinning the case for a rate cut in September.
Inflation has continued its decline, with July’s headline inflation dropping to 2.5% year-over-year from 2.7%, and core inflation, which includes median and trimmed measures, decreasing to 2.6% from 2.8%. Services inflation, particularly impacted by shelter costs, also showed a significant decrease. These trends in inflation support the BoC’s stance, as Governor Tiff Macklem has previously indicated that easing inflation would likely lead to further rate cuts.
The BofA Global Research commentary suggests that while the decline in expectations for the BoC’s terminal rate has contributed to the year-to-date outperformance of Canadian rates, the pace of this outperformance may slow if economic data in the U.S. continues to normalize.
In the foreign exchange market, the Canadian dollar is no longer seen as undervalued against the U.S. dollar, and the upcoming BoC decision is not expected to significantly impact the currency pair.
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