Why the Bank of Canada Should Announce a July Rate Cut

In early June, the Bank of Canada cut interest rates for the first time since March 2020. The central bank cut its key overnight lending rate by 25 basis points to 4.75%. The big question is when the next interest rate cut will come.

Will the Bank of Canada Cut Rates Again in July?

At the start of 2024, it was widely expected that the Bank of Canada would cut interest rates up to five times this year. But stubbornly high inflation and mixed economic data meant the Bank of Canada held off announcing a rate cut until June. While additional rate cuts are obviously on the table, the central bank said those cuts hinge on inflationary data.

Over the last three years, the Canadian economy has experienced high inflation with the rate of inflation peaking at 8.1% in June 2022. Because of rising interest rates, inflation has fallen since then to 2.9% in May from 2.70% in April. Inflation ticked higher but is still within the Bank of Canada’s 1% to 3% target range.

With inflation heating up, some economists believe the Bank of Canada will hold off on its next interest rate cut until September. The reason? The Bank of Canada is expected to move cautiously with interest rate cuts and avoid reigniting fast economic activity, which would impact housing and inflation.

What Are the Odds of a July Interest Rate Cut?

The odds of a July 24 rate cut have fallen to just 40%, down from 60% before May’s inflationary data was released. Should the Bank of Canada cut interest rates in July by a further 25 basis points, interest rates would fall to 4.50%. Two additional interest rate cuts later this year would bring interest rates down to 4.0%. Waiting until September to announce a rate could mean finishing out the year with interest rates at 4.25%.

The Bank of Canada and other central banks were late to the table in raising interest rates to tackle inflation and the fear is central banks will err on the side of caution when it comes to interest rate cuts.

It’s important to remember that it takes 18 to 24 months for changes in monetary policy to take effect. Pausing interest rate cuts based on one month’s inflationary data may be a little too cautious and not take other important economic factors into account.

Inflation may have inched up in May, but there are worrying signs that suggest the higher interest rate environment will continue to harm the Canadian economy. Job vacancies, which measure the number of open positions, fell 28% on an annual basis in April to 575,400. This is the third consecutive monthly decline and puts the number below the 582,510 vacancies reported at the start of 2020. This shows the Canadian economy is weakening and businesses are cutting back on their hiring.

On top of that, Canada just recorded its third straight month of trade deficits. In fact, it recorded a bigger-than-expected trade deficit of $1.93 billion in May, with exports declining faster than imports. Total monthly exports slipped 2.6% to $62.45 billion, the lowest level since July 2023 with imports decreasing 1.6% to $64.37 billion. Outside of exports to the U.S., May’s data represents the biggest drop ever in exports.

Canada’s inflation may be sticky, with some expecting the Bank of Canada to skip a July rate cut, but there’s plenty of data that supports a rate cut. Additional economic data will also be coming out over the next two weeks that could sway the bank’s decision.

If the central bank does hold interest rates at 4.75% in July, the markets have fully priced in 25 basis point rate cuts for September and December.

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