Bank of Canada's policy interest rate could dip to 2.75% by late 2025

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Looking ahead, the Bank of Canada may reduce its policy interest rate to 3.75 per cent by the end of 2024, with further cuts potentially bringing it down to 2.75 per cent by the close of 2025.

That is the latest forecast by Credit 1 Economics Centre, which anticipates a continuous downward trend for the policy interest rate with incremental drops of 0.25 per cent of about at least once every quarter next year.

This builds on a forecast for a 0.25 per cent drop from the 4.5 per cent rate established in the July 2024 update to 4.25 per cent in the next update scheduled for September 4, 2024.

According to Credit 1, the latest data in July 2024 shows inflation continues to moderate, reaching 2.5 per cent for the month, which was the lowest headline rate since early 2021.

All the while, there are signs of employment challenges in the country, with youth employment being most problematic — reaching an unemployment rate of over 14 per cent, which is the highest in over a decade.

In response to these trends, on Monday, the federal government announced it will lower the number of low-wage, temporary foreign workers in Canada in an effort to encourage businesses to invest in Canadian workers and youth.

"At this point there is no inflation problem in Canada that needs solving. Economic trends are similarly subdued," reads this week's forecast by Credit 1.

"Population growth continues to run ahead of hiring, and declining job vacancies and subdued business expansion could be contributing to more people pausing job search."

"Young people are facing severe stress in the labour market as they compete with newcomers for jobs… The Bank of Canada will continue to normalize rates given labour market slack, declining per capita GDP, and prospects that inflation could overshoot to the downside and below target."

If there is a more pronounced economic downturn and an outright recession, there could be a faster rate to the cuts to the policy interest rate, potentially reaching 2.0 per cent to 2.5 per cent by the end of 2025 in such a scenario.

Credit 1's forecast also takes into account the similar trends of moderating inflation and deteriorating economic and labour market conditions of the United States, and the moves and signals made to date by the US Federal Reserve System, which influences Bank of Canada policy.

"Rapid rate adjustments follow a shift in expectations about US monetary policy. This is very different from earlier in the year when the view was a higher for longer policy rate, and a testament to sensitivity of expectations to the flow in incoming economic data," continues the bulletin by Credit 1.

"With inflation moderating, the Fed has increasingly turned its focus to the second of its dual mandate — full-employment. The US labour market has soured."

Credit 1's Bank of Canada policy interest rate forecast, as updated on August 26, 2024: