Market Wire: Bank of Canada Eases Rates, Signals Caution Ahead

The Bank of Canada cut its benchmark overnight rate by 25 basis points this morning—returning to a more gradual pace of easing than in October and December—and indicated that it would follow a more cautious approach in the months ahead as officials work to assess the impact that US tariff increases might have on growth and price pressures.

In the official statement setting out the decision, policymakers said “The economy is expected to strengthen gradually and inflation to stay close to target. However, if broad-based and significant tariffs were imposed, the resilience of Canada’s economy would be tested”.

According to updated projections in the accompanying quarterly Monetary Policy Report, officials expect the economy to grow 1.9 percent in 2025, down sharply from the 2.3-percent pace seen in October. An average of the Bank’s two preferred measures of year-over-year core inflation is now projected to hit 2.1 percent in the fourth quarter of this year—the same as previously forecast—and 2.1 percent in 2026, slightly faster than the previous 2.0-percent estimate.

A special insert*, containing the Bank’s updated modelling, shows the economy suffering a 2.5-percent shock** to real gross domestic product—almost certainly sufficient to drive the country into a recession—in the first year after the US implements a 25-percent tariff and Canada responds symmetrically. Output would be 1.5 percent lower in the second year. Prices could move higher as demand weakness fails to offset upward pressure on imported goods costs.

In comments prepared in advance, Governor Macklem said “With a single instrument—our policy rate—we can’t lean against weaker output and higher inflation at the same time,” suggesting that officials expect fiscal authorities to work on supporting the economy while the Bank itself remains focused on its core inflation-fighting mandate.

Guidance on future moves was removed, suggesting that the Bank intends to remain sidelined until incoming data provides a clearer view on the underlying economic dynamics that could drive price pressures. The deposit rate was lowered, indicating a desire to improve financial system functioning in the event of a liquidity shock.

Market views could change when Macklem and Deputy Governor Rogers answer questions in the next half hour, but for now, it is clear that traders view the balance of risks in the Canadian dollar as tilted to the downside. Interest rate developments are unlikely to provide a sufficient offset to the economic hit that could be delivered by a tariff announcement this Saturday, and it remains reasonable to think that the loonie’s trading range could widen substantially in the coming weeks. The exchange rate will remain under pressure for now.

**To read the full Monetary Policy Report, click here

*This is arguably hawkish: Private sector economists have estimated shocks between 2 and 8 percent.