The Bank of Canada (BoC) finds itself in a precarious position. With its next interest rate announcement on the horizon, economists are engaged in a heated debate over the magnitude of the impending cut: Will it be a cautious 25 basis point (bps) reduction, or a bolder 50 bps move? This uncertainty arises from conflicting economic signals, most notably the September employment report, which painted a complex picture of Canada’s economic health.
September’s Employment Surprise: A Deeper Dive
Canada’s economy defied expectations in September, adding a net 42,000 new jobs, driven by a surge of 112,000 full-time positions. This impressive growth offset a decline of 61,000 part-time roles and lowered the unemployment rate to 6.5%. However, this positive news was counterbalanced by a 0.2 percentage point drop in the labour force participation rate, bringing it down to 64.9% – its third decline in four months. This indicates that despite job growth, some individuals are becoming discouraged and leaving the workforce. Additionally, wage growth decelerated to 4.6% year-over-year, down from 5% in August.
The Case for a 50 bps Cut: Addressing Underlying Weakness
Despite the seemingly robust employment figures, a contingent of economists advocates for a more aggressive 50 bps rate cut. Their arguments are rooted in several key concerns:
- Lingering Economic Slack: While employment increased, signs of slack persisted in the labour market. The decline in labour force participation, combined with a 0.4% drop in total hours worked, suggests that the economy is operating below its full potential. This signals a need for stronger stimulus to invigorate economic activity.
Randall Bartlett, Senior Economist at Desjardins, stated, “While the September data indicates the labour market may not be ready to throw in the towel just yet, our tracking is for a much weaker real GDP growth print in Q3 than the Bank of Canada’s most recent forecast. Given this added economic slack, we remain of the view that the Bank will cut the policy rate by 50 basis points (bps) in October.”
- Subdued Business and Consumer Sentiment: The BoC’s latest Business Outlook Survey (BOS) and Canadian Survey of Consumer Expectations (CSCE) reveal a pervasive pessimism among businesses and consumers. The BOS indicator fell to -1.24 in Q3 2024 from -0.42 in Q2, indicating a deterioration in business sentiment. Similarly, the CSCE shows declining consumer confidence in future economic conditions. This negativity casts a shadow on future economic prospects and suggests that a bolder rate cut may be necessary to restore confidence and stimulate spending and investment.
| Survey | Indicator | Q2 2023 | Q3 2023 | Change |
| Business Outlook Survey (BOS) | BOS Indicator | -0.42 | -1.24 | -0.82 |
| Canadian Survey of Consumer Expectations (CSCE) | 12-month ahead economic conditions | 43.3 | 40.4 | -2.9 |
| Canadian Survey of Consumer Expectations (CSCE) | 24-month ahead economic conditions | 48.7 | 45.2 | -3.5 |
- Inflation Under Control: With inflation returning to the BoC’s 2% target in August, the central bank has greater leeway to reduce interest rates without reigniting inflationary pressures. This provides an opportunity to prioritize stimulating economic growth.
The Case for a 25 bps Cut: A Cautious Approach
On the other side of the debate, other economists favour a more measured 25 bps cut. They contend that the solid employment figures indicate that the economy is not in desperate need of aggressive stimulus. Their reasoning is supported by:
- Resilient Job Market: The significant increase in full-time jobs, particularly among young people aged 15-24, suggests a healthy labour market. This signals that the economy may be more robust than some indicators suggest, suggesting a less aggressive rate cut may be appropriate.
Derek Holt, Vice President and Head of Capital Markets Economics at Scotiabank noted: “The jobs details were a bit mixed but mostly constructive. Canada’s job market remains on strong foundations… 50(-bps) isn’t impossible, but I still just don’t see the emergency that merits such a move.
- Elevated Wage Growth: Although wage growth has moderated slightly, it remains relatively high at 4.6% year-over-year. This persistent upward pressure on wages could contribute to future inflation, making a smaller rate cut more prudent.
- Global Economic Uncertainty: The global economic outlook is fraught with uncertainty. The ongoing war in Ukraine, persistent inflationary pressures in many countries, and potential slowdowns in major economies like the US and China all pose risks to Canada’s economic outlook. A larger rate cut could expose the Canadian economy to unnecessary vulnerabilities, especially if external headwinds intensify.
The Verdict: A Delicate Balancing Act
The ultimate decision rests with the BoC, and it’s a tight call. The central bank will meticulously analyze various economic indicators, including the upcoming inflation report for September, and weigh the potential consequences of each option. The stakes are high, as their decision will have ripple effects throughout the Canadian economy.
What Does This Mean for Homebuyers and Homeowners?
The BoC’s interest rate decision has significant implications for the housing market, impacting both homebuyers and homeowners:
- Homebuyers: A rate cut, whether 25 or 50 bps, could lead to lower mortgage rates. This would reduce borrowing costs, making homeownership more accessible for potential buyers. However, lower rates could also stimulate demand, potentially leading to increased competition and upward pressure on home prices.
- Homeowners: Existing homeowners with variable-rate mortgages would see their monthly payments decrease if the BoC cuts rates. This could free up cash flow for other expenses or savings. However, homeowners with fixed-rate mortgages would not be directly affected by a rate cut.
Beyond the Housing Market: Broader Economic Implications
The impact of the BoC’s decision extends far beyond the housing market. It influences consumer spending, business investment, and the overall economic outlook. A rate cut could stimulate economic activity by encouraging borrowing and spending, while a smaller cut or maintaining the current rate might signal a more cautious approach aimed at controlling inflation and mitigating potential risks.
Historical Context
- Looking back at historical trends can offer valuable insights. In the 2008 financial crisis, the BoC aggressively cut interest rates by a cumulative 300 bps to stimulate the economy.
- More recently, during the COVID-19 pandemic, the BoC implemented a series of rate cuts, bringing the policy rate to a historic low of 0.25%. These examples demonstrate the BoC’s willingness to take decisive action in times of economic turmoil.
- However, the current situation is different, with inflation being a more significant concern than in previous crises.
Key Takeaways:
- The BoC faces a challenging decision, balancing the need to support economic growth with the imperative of maintaining price stability.
- The September employment report offered a mixed picture of the Canadian economy, with strong job growth but also signs of underlying weakness.
- Economists are divided on the appropriate size of the rate cut, with some advocating for a bolder 50 bps move and others favouring a more cautious 25 bps reduction.
- The BoC’s decision will significantly affect the housing market, consumer spending, business investment, and the broader Canadian economy.
The Bottom Line: Navigating Uncertainty
The upcoming BoC interest rate announcement is a pivotal event with far-reaching consequences. While the September employment report provided some clarity, it also introduced new complexities. The central bank’s decision will depend on a careful assessment of all available data, including the forthcoming inflation report, and a nuanced understanding of the Canadian economy’s current state and prospects. The BoC’s delicate balancing act will have a profound impact on the lives of Canadians and the trajectory of the nation’s economy.
