Chhad Aul, CFA
, Chief Investment Officer and Head of Multi-Asset Solutions, SLGI Asset Management Inc.
- After three consecutive 25 basis points cuts (bps), the Bank of Canada (BoC) decided to take a more aggressive stance. It cut rates by 50 bps to 3.75% at its October meeting.
- The U.S. Federal Reserve’s (the Fed) decision to start with a 50 bps cut in September provided room for the BoC to cut 50 bps without further widening the interest rate differential.
- Current interest rates are still higher than inflation hence there is room for the BoC to continue normalizing rates.
- We think the BoC will cut another 25 bps, possibly 50 bps if inflation is benign and economic data continues to soften, at the final BoC meeting in December 2024.?
- Recent data prints show that not only is inflation moderating but the September Consumer Price Index (CPI) came in below expectations at 1.6%, the lowest CPI since February 2021. This brings Q3 average CPI to the BoC’s 2% target. The main drivers were a year-over-year decline in transportation and clothing/footwear, shelter costs also moderated from +5.3% in August to +5% in September. Food inflation remained sticky at +2.8%.
- While the Bank of Canada has a single official mandate of flexible inflation targeting, the renewed framework for 2022-2026 outlined how the BoC would “consider a broader range of labour market indicators to actively seek the level of maximum sustainable employment needed to keep inflation on target.” Bank of Canada governor Tiff Macklem said recently that as the BoC approaches the inflation target, it becomes more concerned about the downside risks.
- According to the BoC’s Q3 Business Outlook Survey, firms say high rates continue to weigh on consumers. Sales expectations are still below average although a slight improvement from Q2 due to the two interest rate cuts before the survey was completed in late August. All three categories (business activity, prices and costs, and capacity) remain negative albeit less so than in Q2.
- The BoC’s Q3 Consumer Expectations Survey also provided invaluable insight. Consumer perception and expectations of inflation declined from last quarter although still above pre-COVID. Most important though, expectations for inflation two years from now declined sharply from last quarter and are now at pre-pandemic levels. On the positive side, indicators of perceived financial stress (i.e. expect finances to decline over the next year, probability of job loss) improved, reversing the sharp deterioration last quarter. 44% of consumers surveyed have noticed the impact of interest rate cuts. However, high prices and elevated interest rates continue to weigh on consumer budgets.
- Overall, both surveys indicate that high interest rates have brought inflation back towards target and there’s room to further loosen restrictive financial conditions.
Source: Bloomberg and Sun Life Global Investments. Data as of Oct 23, 2024.
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