'The chance of rate cuts are pretty low at this point given how the economy's been evolving': Daw

Key Concepts

• Monetary Policy: The actions taken by the Bank of Canada (BoC) to manage interest rates and money supply.
• Headline Inflation: The raw inflation figure reported through the Consumer Price Index (CPI), which includes volatile items like energy and food.
• Core Inflation: A measure of inflation that excludes volatile items to show the underlying trend.
• Excess Capacity: A state where an economy has more productive capacity (labor and capital) than is currently being utilized.
• Rate Differentials: The difference in interest rates between two countries, which influences currency valuation.
• Risk-off Scenario: A market environment where investors avoid risky assets in favor of safer ones (e.g., during geopolitical conflict).

1. Bank of Canada (BoC) Policy Outlook

The market currently anticipates no change in interest rates for the upcoming BoC announcement. While the market is pricing in potential rate hikes for the second half of the year, RBC Capital Markets’ base case is that the Bank of Canada will remain on hold throughout 2026, with a potential tightening cycle beginning in 2027. However, Jason Doll notes a risk that this tightening could be pulled forward into the second half of the current year. Rate cuts are considered highly unlikely given the current economic trajectory.

2. The Impact of Energy Prices

A significant point of discussion is the "oil-induced inflation" resulting from geopolitical tensions in the Middle East.

• Economic Impact: While high oil prices are traditionally viewed as a net positive for Canada, the reality is more nuanced. The net impact on the economy is likely close to neutral, as the benefits to energy producers are offset by the costs to consumers and businesses.
• Inflationary Transmission: While gasoline price hikes have spiked headline inflation, there is no clear evidence yet that these costs are filtering into core prices. Due to existing excess capacity in labor and product markets, a massive inflationary impulse is not expected.

3. Economic Growth and Constraints

The Canadian economy is currently growing at a rate below 2%.

• Performance Metrics: Growth of approximately 1.5% is considered a "good outcome" given recent trade shocks and stagnant population growth (which was zero last year and is projected to be zero this year).
• Government Intervention: While the government can implement targeted measures—such as temporary excise tax cuts on fuel—to cushion the blow for low-to-middle-income households, these measures cannot fully solve affordability issues. Similarly, monetary policy has limited efficacy in addressing these specific supply-side shocks.

4. Currency and Mortgage Market Outlook

• Canadian Dollar (CAD): The currency has been testing annual highs. Factors supporting the CAD include rising energy prices and the potential for favorable rate differentials if the BoC begins a hiking cycle. Additionally, as "risk-off" sentiment related to geopolitical conflicts (e.g., US-Iran tensions) subsides, market participants are shifting toward being "short" on the US dollar, which may provide medium-term upside for the CAD. However, the currency has remained within tight, bounded ranges over the past year.
• Mortgage Rates: Long-term mortgage rates are tethered to market expectations for the BoC. Since the market expects the Bank to remain on hold or engage in only a modest hiking cycle, significant upward movement in mortgage rates is not anticipated.

Synthesis and Conclusion

The Canadian economic outlook is characterized by stability amidst moderate growth and geopolitical uncertainty. The Bank of Canada is expected to maintain a cautious, "on-hold" stance, prioritizing the management of inflation without stifling the modest 1.5% growth rate. While energy prices pose a risk to headline inflation, the presence of excess capacity in the economy acts as a buffer against broader inflationary pressures. Investors should expect the Canadian dollar to remain sensitive to energy prices and shifting rate differentials, while mortgage holders are unlikely to see drastic rate volatility in the near term.