Soft Economy May Cap Bank of Canada Interest Rate Hikes

According to a recent report by Capital Economics, Canada's economic growth is expected to be limited due to trade uncertainty and slowing immigration levels. As a result, the Bank of Canada may not raise interest rates as high as previously thought.

The report suggests that inflationary pressures will likely remain contained, allowing the central bank to maintain its current benchmark interest rate of 2.25% without significant increases. Capital Economics forecasts a pair of quarter-point hikes starting next year, bringing the policy rate to 2.75%. This is well below the roughly 1.25 percentage points of total hikes markets now expect before the end of 2027.

The report's authors argue that downward forces, such as U.S. tariffs and trade uncertainty, will hamper economic growth. Additionally, a soft labour market is helping to contain inflation from wage growth. The economists also note that revisions in Statistics Canada last week showed that population growth has not slowed as previously thought, which could lead the federal government to tighten immigration levels further.

Capital Economics expects real gross domestic product will rise just 1.5% next year and normalize to two per cent in 2028 as infrastructure and artificial intelligence projects gain steam. The report also notes that some growth prospects have been rosier in recent weeks, making note of the federal government's expanded tax incentive aimed at stimulating business investment.