In a bold forecast, the Canadian Imperial Bank of Commerce (CIBC) predicts that the Bank of Canada will accelerate the pace of its interest rate cuts in the coming months to fend off a potential recession. According to CIBC’s chief economist Avery Shenfeld, the central bank, led by Governor Tiff Macklem, is expected to reduce the policy rate by 50 basis points at both its December and January meetings. This would bring the policy rate down to 2.25% by the end of the easing cycle, projected to conclude in June 2025. The forecast suggests that Canada could see faster and deeper cuts than most economists anticipated.
The Bank of Canada has already reduced its benchmark overnight rate in June, July, and September, bringing it down from a peak of 5% to 4.25%. However, Shenfeld and his team believe that the central bank needs to act more aggressively in light of recent data showing weakening economic conditions. “It really is time to declare victory in the battle against inflation and get the economy moving again,” Shenfeld said in an interview, stressing that there is no reason to delay lowering rates significantly.
Why Jumbo Cuts?
CIBC’s forecast comes amid mounting concerns that Canada’s economy is slowing more rapidly than anticipated, particularly in the labor market. Data from August showed a modest increase of 22,100 jobs, but the unemployment rate unexpectedly rose to 6.6%, the highest level in over a year. The uptick in unemployment has been most pronounced among young Canadians and newcomers, but it is also spreading to prime-age workers, signaling broader concerns about the health of the labor market. Shenfeld cautioned that unemployment could rise to 6.8% or 6.9% in the coming months if current trends continue.
The sluggish job market is not the only concern. Canada’s overall economic growth is also slowing. While the country’s GDP grew at an annualized rate of 2.1% in the second quarter of 2024, much of that growth was driven by government spending and business investment. Consumer spending, however, remains weak and is being propped up mainly by the country’s elevated population growth. Leading indicators for the second half of 2024 suggest that growth will slow significantly, further justifying the need for accelerated rate cuts to stimulate the economy.
The central bank’s own statements have hinted at the possibility of larger cuts. Last week, Governor Macklem noted that officials could cut rates by 50 basis points or more if inflation and economic activity slowed faster than expected. However, he also emphasized that pausing cuts was an option if inflation remained persistent or growth showed signs of resilience. This has left open the possibility of more substantial cuts depending on how economic data evolves in the coming months.
Economic Concerns and the NAIRU Debate
One of the key reasons for CIBC’s aggressive rate cut prediction is Canada’s rising unemployment rate, which is higher than what would be expected if the economy were in balance—a concept known as the Non-Accelerating Inflation Rate of Unemployment (NAIRU). Economists use NAIRU to estimate the lowest unemployment rate an economy can sustain without causing inflation to rise. According to Shenfeld, the current unemployment rate suggests that Canada’s economy is not operating at its full potential, thus supporting the case for more substantial rate cuts.
However, the use of NAIRU is controversial. Research conducted by the Bank of Canada in 2022 argued that NAIRU is difficult to estimate accurately, casting doubt on its effectiveness as a policy tool. Despite these concerns, Shenfeld remains confident that the economy can handle deeper cuts, especially given the rising joblessness and slowing growth.
Forecasts from Other Major Banks
CIBC is not alone in predicting significant rate cuts, but its forecast is among the most aggressive. The National Bank of Canada has also forecast a 50 basis point cut before the end of this year, though it expects the policy rate to reach 3.5% by the close of 2024 and eventually settle at 2.75% by the end of the easing cycle in 2025. This estimate is close to what economists refer to as the neutral rate—the level at which borrowing costs neither stimulate nor restrict economic growth.
Other major Canadian lenders, including Bank of Montreal (BMO), Toronto-Dominion Bank (TD), Royal Bank of Canada (RBC), and the Bank of Nova Scotia (Scotiabank), expect a more gradual reduction in rates. These banks believe the Bank of Canada will continue to cut in 25 basis point increments rather than the larger 50 basis point cuts forecasted by CIBC.
Citi’s Veronica Clark, one of the first to call for a 50 basis point cut earlier in this cycle, shares a similar view with CIBC, predicting that the central bank will enact a 50 basis point cut at its next meeting on October 23. Former Bank of Canada Governor Stephen Poloz also weighed in on the debate, suggesting that there may be a case for cutting rates beyond the neutral point to cushion the economy in the event of more downside risks. While he did not explicitly forecast a recession, Poloz noted that Canada should be prepared for one, adding, “We should not pretend it can’t happen.”
The Housing Market and Consumer Spending
Shenfeld also pointed out that high interest rates are currently holding back sectors like the housing market, which has been one of the pillars of the Canadian economy. “Rates are now too high for the economy’s own good, and they can afford to front-load some of their reductions,” Shenfeld explained, highlighting the need to stimulate housing demand and overall consumption.
Despite the strong second-quarter GDP growth, which was largely driven by government initiatives and business investment, consumer spending remains fragile. The easing of monetary policy could provide much-needed relief to Canadian households, particularly those grappling with rising borrowing costs and the slowdown in the housing market.
What’s Next?
The next major test for the Bank of Canada will come at its October meeting, where it will decide whether to cut rates by the predicted 50 basis points or take a more cautious approach. Shenfeld’s call for jumbo cuts adds another layer of pressure on Governor Macklem and his team to consider more aggressive measures to support the economy. With rising unemployment, weakening growth, and high interest rates impacting key sectors, the central bank’s decisions in the coming months will be critical in determining the trajectory of Canada’s economic recovery.
As policymakers navigate these challenges, the debate over the appropriate pace and depth of rate cuts will likely intensify, especially if economic data continues to deteriorate.
