Inflation, jobs, and tariffs test Bank of Canada’s strategy ahead of December's rate decision
The Canadian economy presents a “mixed bag” as the Bank of Canada prepares for its final interest rate decision of the year on December 11.
This observation comes from Jimmy Jean, vice-president, and chief economist at Desjardins Group, during a conversation with the Financial Post’s Larysa Harapyn.
Recent economic data highlights challenges, including weaker-than-expected GDP figures for the third quarter and a concerning slide in the labour market.
Jean noted the unemployment rate is at 6.5 percent and may rise further, coupled with declining labour force participation. These trends point to decelerating wage pressures, which support the case for rate cuts.
However, Jean emphasized the situation is not uniformly bleak. Fiscal stimulus measures, such as GST rebates announced by the federal government, could bolster growth.
This stimulus, he argued, might lead the Bank of Canada to exercise caution before implementing another significant rate cut.
Inflation remains another key factor. October’s inflation data showed a slight uptick, with core services inflation (excluding shelter) rising from an annualized three-month rate of 2.3 percent to 2.8 percent.
Jean highlighted the importance of vigilance, stating that the battle against inflation is not yet over, which could justify a conservative approach, potentially limiting the rate cut to 25 basis points.
The discussion also touched on potential tariff threats and their implications for monetary policy. While tariff concerns exist, Jean explained that the Bank of Canada typically responds to enacted policies rather than speculative risks.
He pointed to diplomatic efforts aimed at mitigating the potential impact of such threats. If tariffs materialize, Jean expects a significant economic headwind, with disinflationary effects likely outweighing inflationary pressures. This scenario could prompt additional rate cuts.
Jean also addressed the Canadian dollar's performance, noting a nearly six percent appreciation this year. A stronger dollar complicates the Bank of Canada’s calculus, as it could offset some tariff-related inflation impacts but add pressure to growth.
He suggested that a depreciating dollar, potentially reaching $1.43 to $1.45 against the US dollar, could act as a buffer for the economy if tariffs were introduced.
Jean observed that the Federal Reserve has slowed its pace of rate cuts, which could widen the monetary policy gap between the US and Canada. Such divergence could increase inflationary pressures in Canada due to currency effects.
He explained that while central banks typically focus on enduring inflationary trends rather than short-term price shocks, tariffs could alter inflation expectations, prompting the Federal Reserve to adjust its policies.
In this complex economic environment, Jean concluded that the Bank of Canada is likely to maintain its current playbook while monitoring evolving conditions.
Key factors, such as inflation, fiscal stimulus, and international trade developments, will shape its decisions in the coming months.
