Why a June cut is no ‘slam dunk’

Canadians saw a glimmer of hope when Bank of Canada governor Tiff Macklem said a June interest rate cut was “within the realm of possibilities” in answer to a reporter’s question yesterday.

The central bank held its key interest rate at five per cent on Wednesday, saying it needs more evidence that the cooling of inflation is “sustained” rather than a blip in the data.

“I realize that what most Canadians want to know is, when we will lower our policy interest rate. What do we need to see to be convinced it’s time to cut?” Macklem said.

“The short answer is, we are seeing what we need to see but we need to see it for longer to be confident that progress toward price stability will be sustained.”

So what are the chances that happens by June?

Markets appear to have their doubts, with overnight index swap traders now pricing in a 51 per cent chance of a 25 bps rate cut in June — lower than before the central bank’s decision. A July cut is fully priced in.

Hot inflation data in the United States that was released the same day didn’t help. News that the U.S. core consumer price index topped forecasts for the third month in a row roiled financial markets as investors abandoned hopes that the Federal Reserve would cut rates any time soon.

“Even though inflation has moved with the Boc’s 1 per cent to 3 per cent target range over the last few months, markets have become more cautious on the timing of cuts,” said James Orlando, senior economist at Toronto Dominion Bank.

Some of this has been spurred by hotter inflation to the south, but Canada’s stronger-than-expected economic growth to start the year has been the biggest driver.

Though market pricing still holds onto hope for a June cut, “July (our call) is becoming more likely,” he said.

The two inflation reports before the Bank of Canada’s next decision on June 5 could make all the difference, say National Bank of Canada economists.

“By no means do we see June as a slam dunk for a rate cut,” they said in a note.

“While policymakers are cautiously optimistic that inflation pressures will continue to subside, we have no doubt they’d delay the onset of cuts if underlying inflation were to re-accelerate.”

And it has in the past. Almost a year ago in June 2023, Canada’s CPI dropped to 2.8 per cent only to bounce back up to 4 per cent two months later.

“The Bank of Canada does not want to risk the same scenario with inflation climbing back up if they cut their key interest rate too quickly,” said Brooke Thackray, research analyst at Horizons ETFS.

Benjamin Reitzes, managing director of BMO Capital Markets, says the next two CPI reports will need to be at least as good as readings in January and February.

“With the Fed seemingly on hold for potentially longer after a string of firm CPIS, the BOC will likely be a bit more cautious on the margin with rate cut timing,” he wrote in a note.

So it will be all eyes on Canada’s consumer price index, with the next report due on April 16.

“Borrowers must hope that Canadian inflation fares better than today’s unsatisfactory U.S. reading,” said Mortgagelogic.news analyst Robert Mclister, in a post yesterday.

“As it stands, July is a much safer bet than June for the Boc’s first cut in over four years,” he said.