Money markets and economists have been busy reassessing the odds of another Bank of Canada rate cut on Wednesday in the wake of a softer-than-expected inflation report this morning.
Prior to the CPI data, markets were only giving little better than one-third odds of a BoC rate cut.
When the data hit at 830 am ET, implied probabilities of a rate cut Wednesday immediately rose to about 50%.
However, as the morning wore on, market-implied odds drifted back down to modestly below 50%.
Similarly, economists are quite split on whether a quarter-point rate cut will be made by the BoC on Wednesday, and concede it’s going to be a close call.
Canada’s annual inflation in March slowed to 2.3%, three notches below the prior month, largely helped by lower gasoline and travel tours prices. The core measures of inflation, however, stayed elevated, Statistics Canada said.
Analysts polled by Reuters had expected the year-on-year inflation rate to remain at 2.6%, and on a monthly basis to rise by 0.6%. On a month-on-month basis, inflation rose by 0.3%, Statscan said.
The Canadian dollar immediately fell on the data, losing its grip on the 72 cents US level. Shorter term Government of Canada bond yields also eased, with the two year yield down about 2 basis points. The equivalent bond yield on U.S. government debt was nearly unchanged.
Here’s how implied probabilities of future interest rate moves stood in swaps markets at 1211 pm ET, according to LSEG data. The overnight rate now resides at 2.75 per cent. While the bank moves in quarter-point increments, credit market implied rates fluctuate more fluidly and are constantly changing. Columns to the right are percentage probabilities of future rate moves.
Regardless of what happens Wednesday, markets are almost fully pricing in two more quarter-point rate cuts over the course of this year.
Here’s what they looked like immediately after the 830 am ET inflation report:
And here’s what they looked like just prior to 830am CPI report.
Here’s how economists are reacting in written commentaries:
Veronica Clark, economist with Citi
“While it is a close call between keeping policy rates unchanged and lowering them further tomorrow, we continue to expect officials to decide on a 25bp cut. We have become more confident in the last five weeks since the March BoC meeting that policy rates will ultimately be lower than 2.75% (100bp above 2019 levels) this year and think officials will see things similarly. Developments since March have shifted risks less inflationary than presumed five weeks ago, including falling oil prices, a stronger Canadian dollar, weak details of March CPI, falling home prices, and slowing wage growth. Lack of policy guidance allows for flexibility in decision making, and a consistent lesson of BoC decisions over the last few years has been that if it becomes clear policy rates should be at a different setting in the future, it is prudent to change rates sooner rather than later.”
Katherine Judge, executive director and senior economist at CIBC Capital Markets
The data “still included some upwards pressure from the end of the federal tax holiday, which wasn’t fully captured in the previous month’s data. Some volatile categories were at play, with travel tours plummeting by 8% m/m after a surge in the prior month, but the Bank of Canada’s key core measures of trim and median, which strip out changes in taxes, both eased to a 0.1% m/m seasonally adjusted pace, leaving the annual rates at 2.8% and 2.9%, respectively (vs. 3.0% and 2.9% expected). Moreover, CPIX fell by 0.2% m/m and is sitting at 2.2% y/y. The easing in price pressures is consistent with the Bank of Canada cutting interest rates by 25bps at tomorrow’s meeting, with the downside risks to growth from the trade war outweighing any upside to inflation from tariffs in our view.”
Abbey Xu, economist with Royal Bank of Canada
“Although still higher than the pre-tax holiday figure of 1.9% in November, the headline reading says inflation risks ahead of tariffs were subsiding, and the BoC can afford to opt for an insurance cut like it did in March. Our forecast for the Canadian economy this year has weakened since March. Tariffs are still expected to hurt Canadian exporters but concerns have also grown around a substantially softer U.S. outlook due to reciprocal tariffs and how that can spill over to impact Canada. Prices are expected to rise as a result, although to an limited extent as importers substitute purchases to less-tariffed regions and with downward pressure from the end of consumer carbon tax in April. We see one more 25 bps rate cut from the BoC after tomorrow, for the overnight rate to lower to a terminal of 2.25% in June.
Thomas Ryan, North America economist, Capital Economists
“The downward surprise to CPI inflation in March, along with the first target-consistent gains in CPI-trim and CPI-median in eight months, at the margin raise the odds of a rate cut by the Bank of Canada tomorrow. Still, with the three-month annualized pace of those averaged core measures holding uncomfortably high at 2.7%, and downside risks to the economy easing as trade tensions with the US de-escalate, we expect the Bank to keep interest rates on hold, while it waits to assess the impact of retaliatory tariffs.”
James Orlando, director and senior economist, TD Economics
“Today’s inflation report gave some reprieve from the ongoing threat of higher prices. On a three-month basis, the average of the BoC’s core inflation rates eased to 2.7%, from 3.3%, while CPI ex-food and energy came in at 2.6%. This was an encouraging development. Looking forward, April should show further easing of inflation as the elimination of the carbon tax has pushed energy prices significantly lower. That should more than offset the impact of tariffs, but not forever. While inflation is expected to remain stable over the beginning of spring, the tariff impact will start pushing inflation back towards 3% starting in May/June.
The BoC is meeting tomorrow and the likelihood of another cut has shifted dramatically over the last week. The central bank will be weighing the inflation risk from tariffs against the downside risk coming from consumer/business sentiment surveys, a loosening job market, and a very weak real estate market. We are maintaining our call for another cut from the bank, as it should take out more insurance against the mounting downside risks to the economy.”
Douglas Porter, chief economist, BMO Capital Markets
“After a couple months of high-side surprises, Canadian inflation caught a serious March break, held down by much milder travel costs than normal. This speaks to the fact that the inflation impact of the trade war is more of a two-way street for Canada than the U.S., since Canada’s tariffs are so much lighter so far, while the domestic economy is under more pressure. As well, the reversal of the Canadian dollar into firmer terrain erases one of the BoC’s inflation concerns, as it will hold back import prices. Finally, gasoline prices fell heavily on April 1 as the carbon tax was removed, and have sunk even further on the steep drop in global oil prices, paving the way for a big tumble in headline inflation a month from now. Normally, this would be a big green light for the BoC to cut tomorrow, except the small detail that their major core measures are holding close to 3% (so with the overnight rate having been slashed to 2.75%, real rates are already negative) and policymakers are operating in the dense fog of an ever-shifting trade war.”
David Rosenberg, founder of Rosenberg Research
It was “noteworthy that after stripping out the effect of the sales tax distortions, the CPI sank -0.4% MoM, which is something we have not seen since the dark pandemic days of April 2020. The CPIX, which I would argue is the most reliable measure of underlying inflation (this excludes the eight most volatile items as well as indirect taxes) posted its first outright decline (-0.2%) in the largest drop since May 2020 and the YoY trend is lame and tame at +2.2% (was +2.6% in February). ...
The question for the central bank is how the trade situation plays out, and the fact that we have very recently seen a notable hooking-up in consumer and business inflation expectations. But there is a very good chance that with the jobs backdrop loosening up and wage trends now finally breaking to the downside, any inflation we get from the trade side will hit a wall in the labour market.
Whatever the BoC does at the next meeting, we have to keep in mind that no matter what happens on trade and no matter who wins the federal election, the disinflationary output gap will continue to widen. Thus, we expect an ongoing move by the central bank to bring the policy rate to the very low end of the 2.25%-3.25% range of neutrality (perhaps even below).”
Nick Rees, head of macro research, Monex Caanda (foreign exchange firm)
“The March inflation data undershot expectations to put a Bank of Canada rate cut this week back in play. ... We continue to think that a hold is more likely than not from the Governing Council – but after this latest data print, our conviction is somewhat reduced. This has similarly been the takeaway for markets too, with rate-cut bets accelerating, and the loonie sliding post-release. ...
Despite the market price action, however, we think the details of today’s report support a BoC hold on balance. Indeed, the headline undershoot largely stemmed from gasoline and transport costs. The former fell -1.79% MoM, in keeping with the recent slide in oil. On an annual basis, that left gasoline prices growing -1.58% in March, helped by base effects, far below the 5.10% growth rate recorded the month prior. Similarly, transport costs also notably cooled last month, dropping -0.29% over March. YoY this left prices growing 1.23%, below the 3.03% recorded in February. Crucially, this has an analogue in US data which also saw a similar dynamic. While lower fuel prices arguably play a role here, we also suspect that reduced cross-border travel is partially responsible too, limiting the significance for domestic demand. In short, we see good reason for the BoC to look through these two contributors to the headline undershoot in March.”
Tony Stillo, director of Canada economics, and Michael Davenport, senior economist, Oxford Economics
March “marked the first month of Canada’s counter-tariffs on C$60bn of US imported goods, but there were few signs that firms had passed those higher costs onto consumers. Still, with another C$35bn in Canadian retaliatory tariffs on US auto imports in effect as of April 9, we expect price increases from tariffs will begin showing up in the CPI in Q2 and build as 2025 progresses. However, headline inflation will likely drop to around 2% y/y in April thanks to the removal of the consumer carbon tax and the recent fall in global oil prices, before the US-Canada trade war drives inflation to nearly 3% y/y by the end of this year.
Today’s lower-than-expected CPI reading increases the chances that the Bank of Canada will cut rates by 25bps tomorrow. However, with rates firmly within neutral territory and plenty of uncertainty about trade and fiscal policy, we still expect the Bank to pause as it tries to balance the upside risks to inflation from tariffs against the downside risks to the economy.”
Tu Nguyen, economist with national assurance, tax & consultancy firm RSM Canada
“The unexpected slowdown in inflation in March tilts the odds ever so slightly toward a rate cut by the Bank of Canada tomorrow as signs of a weakening economy emerge, including lower business and consumer confidence and a decline jobs.
Looking ahead, unless the U.S. announces tariff exemptions on Canadian cars and auto parts, which would lead the Canadian government to drop retaliatory tariffs, one can expect a moderate increase in prices in the upcoming months. Since Canada’s retaliatory tariffs are highly targeted, the impact on inflation would be modest. In addition, the weakening U.S. dollar as the reserve currency means that inflation might not rise as much as previously expected.”
Matthieu Arseneau and Kyle Dahms, economists with National Bank
“The last few months had been surprising as inflationary pressures rapidly intensified with an economic upturn despite numerous signs of an economy that remained in excess capacity. Indeed, a small proportion of companies continued to claim that they would not be able to meet additional demand or were experiencing labour shortages.
In this sense, a return to more moderate inflationary pressures is not surprising, especially as several economic indicators began to show weakness, including the labour market in March. Given the tariff uncertainties that are paralysing several companies and are likely to lead to further weakness, we reiterate that the upsurge in inflation was temporary, especially since the Canadian government does not seem inclined to implement strong retaliatory tariffs. In such a context, the Bank of Canada should be in a position to further deliver interest rate cuts this year (key rate forecast at 2.0% at the end of the year).”
Bryan Yu, chief economist, Central 1 credit union
“The pullback in inflation is a welcome surprise after February’s spike and ups the odds of a Bank of Canada cut tomorrow, in what is a roll of the dice. While elimination of the carbon tax, and weakening economic prospects are disinflationary, tariff impacts will lift inflation pressure going forward. With the current policy rate below core measures of inflation, we are of the view that the Bank holds for one more meeting amidst uncertainty.”
Philip Petursson, chief investment strategist, IG Wealth Management.
“The moderation of inflation from February to March gives the Bank of Canada some much needed flexibility with how it can address interest rate policy alongside the uncertainty of the Trump tariffs. ... The larger contributor to inflation continues to be shelter costs especially considering the much higher mortgage rates today as compared to a few years ago. As consumers shift some of their discretionary spending to increasing mortgage costs, it may create a headwind for the Canadian economy. On the positive side, with inflation largely under control, the Bank has the ability to address the potential impact of tariffs or softer consumption with additional interest rate cuts. We continue to believe the BoC will move ahead with 1-2 more cuts before the end of the year. As a result, the recent gains on the CAD vis a vis the USD are likely to reverse course over the near-term as the BoC and the Fed appear to have opposing views on rate policy.”
Charles St-Arnaud, chief economist, Alberta Central
“While the weaker inflation increases the likelihood of a cut at tomorrow’s meeting, we think the BoC is likely to take a pause to better assess the situation, especially in light of broadening inflationary pressures.”
Derek Holt, vice-president, Scotiabank Economics
“Going forward, the BoC will be more concerned about trade war effects that could add to inflation risk such as tariffs on imports and supply chain effects relative to how trade wars create more disinflationary spare capacity. That uncertainty will continue to dominate the narrative.”
David Doyle, head of economics at Macquarie
“Our BoC outlook is unchanged on this release. ... While not an open and shut case, we continue to see a 25 bps rate cut tomorrow and further rate cuts of 25 bps in each of June and July. This would take the overnight rate down to 2.0%.”