Soft Economy to Cap Rate Hikes, Capital Economics Predicts

A recent report from Capital Economics suggests that the Bank of Canada's interest rate hikes may be limited due to a soft economy. The report argues that trade uncertainty and slowing immigration levels will rein in inflationary pressures, reducing the need for monetary policy tightening.

The Bank of Canada has kept its benchmark interest rate at 2.25% since last October as it assesses the impact of the US trade dispute and war in Iran on its outlook. The central bank will release updated forecasts for the economy and inflation at its next interest rate decision on October 28.

Capital Economics predicts that the Bank of Canada will raise rates to 2.75% with a pair of quarter-point hikes starting next year, which would bring the policy rate to the middle of its neutral range. This forecast is well short of the roughly 1.25 percentage points of total hikes markets now expect before the end of 2027.

The report also notes that recent rises in global bond yields are helping to tighten financial conditions and alleviate pressure on the central bank to hike rates. However, Capital Economics expects core inflation metrics to start picking up steam early next year, albeit with limited upward pressure due to downward forces hampering the economy.