The Bank of Canada continued to cut interest rates, dropping another quarter percentage point, which lowered the overnight rate to 2.25%. But Macklem’s team has made it clear that his bank’s easing cycle could be close to completion. The economic outlook for 2026 looks bleak, according to the Canadian central bank’s latest projection, as it has significantly lowered growth expectations.
How Bank of Canada signals end to monetary easing
The Bank of Canada cut its main overnight rate for the second straight month, reducing it by 25 basis points to 2.25%. This is the lowest level since July 2022. In a statement, the Bank of Canada explained that it considers the current level of interest rates to be “at about the right level” to maintain inflation near the 2% target level.
Macklem stressed that the easing is aimed at dealing with the disruption caused to the Canadian economy by US tariffs while it preserves price stability. The tone of the announcements signifies a serious change from the accommodative mode of the central bank, as it appears as though the policymakers feel they have achieved a suitable level of monetary easing. The term yields moved higher as a result of the announcements.
Economic projections reveal structural challenges ahead
The rollforward of growth forecasts from the bank indicates a sharp weakening compared to the earlier forecast. The projection for January indicated a growth of 1.8% in 2025 and 2026, but the latest forecast indicates a growth of 1.2% in 2025, reducing further to 1.1% in 2026, then recovering to 1.6% in 2027. This has been indicated based on the structural shifts observed in the economy.
What’s behind the increasingly pessimistic 2026 growth forecast
The Canadian economy faced a contraction of 1.6% in the second quarter, and initial proof indicates it could scrape a positive growth in the third. The bank expects a yearly pace of 0.5% growth in Q3, followed by 1% growth in Q4, emphasizing the challenges faced by the Canadian economy. Macklem has explained the current state as being more than a cyclical phenomenon but a structural change, which makes it difficult to address through monetary policies.
The view from the central bank appears to indicate that it is mainly export industries, rather than services, which contribute to the slowing economy. The structural change poses a challenge to those responsible for creating economic policies, as it becomes difficult to maintain a balance between supporting economic growth and measures to curb inflation. Issues related to the trade effects of tariffs continue to pose additional uncertainty.
Key economic indicators
- Overnight rate reduced to 2.25%
- 2026 forecast growth rate: 1
- Q3 2025 forecast growth rate: 0.5
- Inflation target remains at 2%
What does this mean for future monetary decisions?
The cautious stance taken by the central bank is a result of uncertainty about the impact of future cuts on the economy. According to Avery Shenfeld, an economist at CIBC, the central bank has placed a very low threshold on economic growth for 2026, making it difficult for surprises in the form of GDP growth. The difference between actual interest rates and those implied in the markets indicates the markets do not expect additional cuts.
A case could have been made, as Shenfeld suggested, for the bank maintaining a passive stance on future rate relief in light of the uncertainty surrounding economic conditions. The economist proposed that an aggressive stance could be achieved by lowering rates below 2% in the near term, to boost the economy, followed by subsequent increases in 2026, assuming fiscal policies have an impact.
The Bank of Canada’s move to indicate an end to interest rate cuts is a clear indication of confidence in the current setting. Despite the weak 2026 growth prospects, it’s apparent that the Bank of Canada is of the view that while additional cuts would be of little use, they could impact the inflation target in light of a tough global trade outlook.
