The Bank of Canada (BoC) decided to cut rates by 50 bps on October 23 marking the fourth consecutive rate reduction. The policy rate is now 3.75%. We do not expect another cut in December but anticipate further easing in 2025.  Our forecast remains for full-year GDP growth to be below trend, at around 1.25% to 1.5%, due to monetary policy restrictiveness that has been more potent than in the U.S.

We predict that the unemployment rate will remain close to its current level of 6.5% (as of September) by year-end. However, there are risks that it could be higher, as tight monetary policy may limit labor demand and potentially impact corporate profits. Additionally, we expect the year-over-year core inflation rate to be between 2.1% and 2.4% by the end of the year, trending towards the midpoint of the BoC's target range of 1% to 3%.

Inflation

Canada’s headline inflation rate slowed to 1.6 % below the BoC’s 2% target in September 2024 and was the smallest since February 2021.  On a month-over-month basis, broad prices fell by 0.4%, driven by a 7.1% decline in gasoline prices. Shelter costs, which account for almost 30% of the CPI basket, remains elevated and rose 5.0% in September (chart 1), primarily driven by mortgage interest costs which rose to 16.8% and rent prices which rose 8.0% year-over-year. The Bank of Canada’s preferred core measures – median and trimmed mean remain flat in September. Bank of Canada Governor Tiff Macklem has expressed concerns that that the economy is slowing down more than necessary to get inflation under control; however, he also said he is not concerned about inflation falling below the target of 2 per cent. 

Figure 1

Source: Statistics Canada and Bloomberg, September 2024

The percentage of components in the CPI basket that had a rise in inflation of 3% or greater year-over-year has declined substantially from its peak in May 2022. Mortgage interest costs will likely slow as the impact of declining rates feeds into the economy and alleviates some pressure. We feel that there will be continued progress in the inflation fight amid below-trend growth. 

Economic Growth

Canada’s GDP growth accelerated to 2.1% annualized in Q2, driven by increased government spending, household spending on services and business investment. Net trade and residential investment fell over the quarter. The growth was widespread as 15 out of 20 industries grew, particularly in the services sector.

However, Q3 GDP growth numbers are tracking below the BoC’s 2.8% target despite July GDP numbers beating expectations. GDP growth is on track to be approximately 1% which would result in its sixth consecutive quarter of decline on a per-capita basis. Growth in government administration is roughly contributing 25% to overall GDP growth over the last three months. Additionally, government spending was the largest contributor to growth in Q2 (79.1% contribution) due to purchases of goods and services and increased compensation.

Canada’s economic growth continues to remain below its pre-pandemic trend. Restrictive monetary policy has constrained activity, despite three consecutive 25-bps BoC cuts intended to fight inflation, leaving Canadian GDP growth well below potential. However, with the BOC expected to continue their easing policy, we anticipate that the output gap could remain around 4% at year-end 2024, as can be seen in Figure 2.

Figure 2

Source: Vanguard Research, Statistics Canada

Monetary Policy

Given strong progress on the inflation fight and below-trend economic growth, the BoC cut rates by 50 bps on October 23, marking the fourth consecutive rate reduction. We do not expect a cut in December but expect further policy easing in 2025.

A net gain of forty-seven thousand jobs in September showed a stronger than anticipated labour market. That in itself does not materially change the picture of a labour market that has cooled significantly since the Bank of Canada started raising rates. 

Tiff Macklem, mentioned that the BoC would “want to see economic growth pick up to absorb the slack in the economy” and he also mentioned that he would like to see inflation ease with a particular focus on shelter inflation and services inflation. Shelter inflation fell by 40 bps in August and services ex-shelter has also fallen. As the BoC reduces the cost of borrowing, mortgage holders pay less in interest, which would dampen shelter inflation, particularly since owned accommodation is weighted more than twice as much as rental accommodation. All these aspects make us optimistic about the likelihood of further rate cuts in 2024.

Labour Markets

Canadian labour markets bucked the cooling trend in September as the economy added 61,000 new full-time private sector jobs along with 51,000public sector jobs. There was a loss of 65,000 part-time jobs. Collectively, this reduced the unemployment rate down 0.10%, down to 6.5%. 

Job gains were predominantly in wholesale and retail trade, culture and recreation and professional, scientific and technical services. The high rate of unemployment amongst Canada’s youth, an aspect highlighted by Macklem in September, fell a full percentage point down to 13.5%. 

An area of weakness continues to be job vacancies as at the end of Q2 there were 2.4 people unemployed for each vacancy.  The most substantial losses were among people in construction help, material handling, transport and trucking and residential commercial installers. Total hours worked fell, as did the labour participation rate, signaling some softening in an otherwise strong report.

We believe unemployment will end the year around current levels.  
 

Figure 3

Source: Canada Labour Force Survey, Statistics Canada