Bank of Canada holds key interest rate steady amid tariff uncertainty, even as economists see further cuts ahead #CanadaFinance

The Bank of Canada spelled out scenarios for stalling economic growth and rising prices on Wednesday. According to ATB Economics, policymakers prioritized the latter in their decision to hold the Bank’s policy rate in place.

Heading in to today’s rate decision, economists described a “coin-flip” situation, with policymakers equally likely to announce a cut versus a decision to hold.

“We knew it was a close call, but we were leaning slightly toward the BoC cutting today (i.e. cut now, pause later) to get in front of trade headwinds. Despite today’s pause, we do see the BoC reducing the policy rate to two per cent by year end,” Mark Parsons of ATB Economics wrote in a research report.

He says Canada’s central bank is in a tough situation under threat of U.S. tariffs.

“We know that tariffs raise prices, but also slow growth,” Parsons wrote. “It seems like the BoC for now is putting less emphasis on ‘stag’ and more on ‘flation.'”

Stagflation refers to a bleak combination of stagnant economic growth, high unemployment, and higher inflation.

A cut today likely wouldn’t have cheered small business owners, said Louise Southall, an economist at accounting software firm Xero. “Even if they had cut the policy rate, I doubt it would do much to boost the current low confidence levels of small businesses.”

Sentiment among business owners has plummeted amid the tariff tensions. Those owners are looking primarily for “clarity and stability around the trade relationship with the U.S.,” Southall said.

“Until that happens, small businesses are likely to continue to face heightened uncertainty, and both businesses and consumers are likely to delay making major investment and purchasing decisions.”

The U.S. Federal Reserve is “well positioned” to watch the economic impact of U.S. tariffs before making changes to interest rates, Chair Jerome Powell said today.

“There’s a lot of waiting and seeing going on, including by us,” Powell said in response to questions after his prepared remarks. “And that just seems like the right thing to do in this period of uncertainty.”

Powell noted that the tariffs are “significantly larger than anticipated” and added that “the same is likely to be true of the economic effects, which will include higher inflation and slower growth.”

Recent data show the U.S. economy has remained strong, with March hiring beating expectations and retail sales surging, even as consumer and business sentiment have dropped.

National Bank economist Warren Lovely says the Bank of Canada’s wait-and-see approach, as demonstrated by today’s hold, will ultimately result in further rate cuts in 2025.

“Prior to the decision, our baseline expectation for the BoC rate path suggested an April ‘pause,’ followed by 75 basis points of additional easing over the balance of 2025, to bring the overnight target to two per cent by year-end,” he wrote in a research note.

The Bank opted to hold its policy rate at 2.75 per cent on Wednesday.

“Today’s decision to hold policy should not be interpreted as the conclusion to the BoC’s easing cycle, in our view, and we still feel that the Bank is likely to deliver more rate relief in 2025.”

Lovely says a gloomy global economic outlook, combined with tariff risk, will see weakening growth in Canada’s economy outweigh the central bank’s inflation concerns.

The BoC rate pause on Wednesday came with a “most definitely dovish” statement, according to Philip Petursson, Chief Investment Strategist of IG Wealth Management. But for now at least, he says U.S. trade policy is in the driver’s seat.

“What the Bank is trying to say, without really saying it, is that factors internal to Canada are practically relegated to second place in monetary policy,” Petursson wrote in an emailed statement. “When the uncertainty comes from U.S. trade policy, the Bank can only go with the flow, try to keep inflation under control and hope the economy doesn’t sink too far.”

“For now, it’s watching, assessing and waiting to see if Trump is bluffing again,” he added.

In recent weeks, U.S. President Donald Trump has issued a broad slate of reciprocal tariffs on major trading partners, only to pause a most for 90 days.

Today’s decision to hold was a “surprise” and “not great news for real estate,” Adam Jacobs, head of research at Colliers Canada, said in a statement sent to Yahoo Finance Canada. But, he added, “there’s no reason a cut can’t happen next time.”

Commercial real estate is “largely sheltered from the impacts of potential tariffs” given the local, non-export nature of the industry, Jacobs said. However, the sector “is highly sensitive to interest rates, business sentiment, and other fundamentals such as the labour market, consumer spending, and immigration.”

The industry is also awaiting the outcome of the federal election, Jacobs said, noting that the new government’s fiscal and foreign policy goals will be more clear when the BoC makes its next announcement on June 4.

While the BoC focused largely on inflationary risks in its decision to hold rates on Wednesday, Canadian Chamber of Commerce principal economist Andrew DiCapua is confident policymakers remain open to lower rates, if backed up by data.

“I’m not surprised that the Governor struck a relatively dovish tone, recognizing that incoming data will likely force the Bank to lower interest rates, which are not currently providing much stimulus to the economy,” DiCapua stated in an email.

“Higher pricing and tariff costs highlighted in their latest survey tipped the balance of risks, leaving them to pause in absence of convincing data.”

Canada’s job market lost a net 32,600 jobs in March, it’s worst showing in three years. Last month, the Canadian Federation of Independent Business found confidence among small businesses plummeted to an all-time low.

The tone and content of both the BoC’s announcement and Monetary Policy Report seemed consistent with a decision to cut rather than to hold, TD economist James Orlando writes.

The Bank “highlighted the downside risks to the economy, with both scenarios showing a level of weakness that is deserving of further rate cuts,” Orlando says. “And it’s not just hypotheticals and sentiment surveys showing fragility,” he added, noting slowdowns in real estate, retail sales, employment and easing inflation. The factors “opened the door for rate cuts today, but the BoC decided not to walk through it,” he writes.

The BoC should resume cutting in June, Orlando says, with economic weakness likely to continue. TD projects 50 basis points of cuts in total in the remainder of 2025.

CPA Canada chief economist David-Alexandre Brassard says BoC policymakers are worried about inflation risks on the horizon, following Wednesday’s decision to hold the policy rate in place at 2.75 per cent.

“Despite recent downward pressure on inflation, the Bank is clearly concerned about future price spikes from tariffs,” says Brassard. “The decision really was 50-50 and staying on the sidelines reflects a careful balancing act between current economic softness and inflation risks ahead.”

On Wednesday, Canda’s central bank warned a possible recession this year, while noting the inflationary impact from tariffs could be masked until 2026 due to weakened demand.

By the time of the BoC’s next announcement on June 4, Desjardins believes “the hard economic data will have deteriorated,” says economist Royce Mendes. Inflation and inflation expectations should also see downward momentum due to the withdrawal of the carbon tax, giving the BoC room for “a big splash,” Mendes says.

“Despite holding rates steady today, we see scope for officials to be debating whether they need to cut rates 50 basis points at their next scheduled rate decision in June should the de-escalation in trade tensions continue,” he writes. Inter-meeting cuts are less likely, Mendes says, more appropriate for “rapidly evolving situations such as financial crises or global pandemics.”

Desjardins is maintaining a forecast for the overnight rate to hit 1.75 per cent “later this year.”

Today’s announcement “focused mostly on the extreme degree of uncertainty in the outlook,” BMO chief economist Douglas Porter writes. Amid the BoC’s two outlook scenarios and allowance for many others, Porter sees little reason to expect a clear path forward. “The point is that the Bank will mostly act reactively,” Porter says.

“There’s not much sense parsing every word from the Bank when the economic landscape can shift so abruptly in coming weeks, and the Bank—like the rest of us—will be reacting and responding to those shifts.”

BMO expects “deep trade uncertainty will weigh heavily on growth in Q2 and Q3, blunting inflation pressures, and eventually prompting the Bank to trim rates further,” Porter says.

Bank of Canada senior deputy governor Carolyn Rogers commented Wednesday on the volatility that’s gripped financial markets as U.S. President Donald Trump rolled out and rescinded various trade policies.

“The initial moves in the financial markets were pretty drastic, pretty violent. Things have settled a bit since then. We didn’t see dysfunction in the market. The market seemed to absorb what was a pretty big shift without big dislocations,” Rogers said in a press conference in Ottawa.

Stock markets whipsawed in recent weeks as Trump issued a broad slate of reciprocal tariffs on major trading partners, before pausing a significant number of levies for 90 days.

Last month, Canadian 10-year bond yields opened their biggest gap below their U.S. equivalent since 1994.

“Just like the economy came into this tariff mess in a pretty good place, our financial system is entering this in a pretty good place,” Rogers added.

“Our financial institutions are well-capitalized. They have some room to absorb this kind of volatility. But we’ll definitely be watching for signs that the short-term volatility is starting to affect stability.”

Macklem on Wednesday laid out the complexity of Canada’s current status in the trade war. Canada has mostly dodged universal tariffs but the integration of the Canadian and U.S. economies means that “the impacts are particularly strong” on some major sectors where tariffs are in effect, he says.

“The other element that’s important for Canada, in particular, because our economy is so linked to the United States, is actually what happens to the U.S. economy,” Macklem said. “And you know, these U.S. tariffs, they’re not good for the U.S. economy either.”

The second scenario detailed in the latest Monetary Policy Report, Macklem notes, includes the U.S. entering a recession.

“If the U.S. economy goes into recession, that’s going to further weaken demand for Canadian goods and services,” he said. “This is a huge deal for every country. For countries like Canada that are closely integrated with the United States, it is a particularly big deal.”

BoC Governor Tiff Macklem added: “We decided to keep the rate unchanged this time and wait for more information on U.S. tariffs, while we also assess the effects that we’re seeing in the economy of theuncertainty and the U.S. tariffs.”

Bank of Canada senior deputy governor Carolyn Rogers addressed the economic impact of Canada-U.S. trade uncertainty on the nation’s real estate market, noting the country’s largest city has been hardest hit.

“We have seen, particularly in the Toronto area, we’ve seen a pretty big drop in housing activity,” Rogers told reporters in Ottawa on Wednesday.

“You’re probably seeing Toronto, Ontario is the market that’s probably being hit proportionately more than others by the degree of uncertainty around U.S. trade.

Rogers also referenced the impact from changes in immigration policy, and supply issues in the market.

Capital Economics deputy chief North America economist Stephen Brown says the BoC’s decision to leave its policy rate unchanged today was “not a huge surprise,” given the above-target core inflation measures reported by Statistics Canada on Tuesday.

“Nonetheless, the Bank’s communications were mostly dovish, which lends some support to our view that it will eventually cut interest rates to 2 per cent this year, rather than pause at 2.25 per cent as market pricing implies,” he stated on Wednesday.

Brown expects the BoC to announce a 25-basis-point rate cut at its next meeting in June.

The Bank of Canada opted to keep rates unchanged on Wednesday, citing an uncertain outlook for U.S. trade relations and inflation. CIBC chief economist Avery Shenfeld says the move represents a “pause,” not an end to monetary easing following seven consecutive cuts.

“We see this as a pause, one tied to the Bank’s lack of clarity on the outlook ahead, rather than the end of the easing cycle, unless the tariff threat disappears in short order,” he stated in a research note.

Canada’s central bank presented models on Wednesday for two paths for inflation, noting these do not span the full spectrum of potential outcomes amid the Canada-U.S. trade war.

“In both cases, inflation actually averages not far from the mid-point of the one-to-three per cent range over the forecast horizon,” Shenfeld added.

“But the Bank also states that these are only illustrative of a broader range of outcomes, and it’s likely that this uncertainty over its forecast was key in its decision to stand pat.”

On Canada-U.S. trade war uncertainty:

“The dramatic protectionist shift in U.S. trade policy and the chaotic delivery have increased uncertainty, roiled financial markets, diminished global growth prospects and raised inflation expectations. The path for U.S. trade policy remains highly unpredictable. There is also considerable uncertainty about the impacts of a trade war on our economy.”

“We still do not know what tariffs will be imposed, whether they’ll be reduced or escalated, or how long all of this will last.”

“We don’t know what’s coming next, and U.S. policy could well move back and forth before the situation is clearer.”

Forget about normal inflation guidance:

“Given this uncertainty, point forecasts for economic growth and inflation are of little use as a guide to anything.”

“What happens with inflation will depend importantly on what happens with tariffs. And if we find ourselves in a protracted trade war, we will see opposing pressures on inflation. A weaker economy will put downward pressure on inflation and higher costs from tariffs will put upward pressure. Both the uncertainty about tariffs and their opposing forces on inflation make forecasting inflation especially difficult at this time.”

Inflation scenario #1:

“Most of the new tariffs get negotiated away, but the process is unpredictable, and businesses and households remain cautious. GDP growth in this scenario stalls in the second quarter, then expands only moderately. Inflation drops below the two per cent target for the rest of 2025 and into 2026, both because of the end of the consumer carbon tax and a weak economy.”

Inflation scenario #2:

“A long-lasting global trade war. The economic consequences are severe. Canada’s GDP contracts in the second quarter and the economy is in recession for a year. Growth gradually returns in 2026 but remains soft through 2027 as U.S. tariffs permanently reduce Canada’s potential output and lower our standard of living. Inflation rises above three per cent in mid-2026 as tariffs, countermeasures and shifts in supply chains raise costs, pushing up many prices. Inflation then eases as weak demand limits ongoing inflationary pressures.”

The BoC release notes that short-term inflation expectations have “moved up” while longer-term expectations are steady. March inflation, while lower than forecast, was still higher than in January, a consequence of “some rebound in goods price inflation and the end of the temporary suspension of the GST/HST.”

The Bank expects the dropped carbon tax and lower oil prices will help keep inflation down but that “tariffs and supply chain disruptions” will “push up some prices.” The extent of that upward pressure “will depend on the evolution of tariffs and how quickly businesses pass on higher costs to consumers.”