With measures of underlying inflation remaining tame and the economy seemingly struggling to avoid recession -- aside from the extremely volatile Labour Force Survey (LFS) -- there's little scope for the Bank of Canada to raise rates over the next few months, said Desjardins.
All signs point to a classic demand shortfall in the economy -- although with some moving parts on the supply side too, noted the bank. As a result, the BoC's Governing Council (GC) no longer needs to be preoccupied with the policy trade-offs associated with a high-inflation, low-growth economy.
The GC can instead focus on what may be needed should demand deteriorate further, stated Desjardins.
Aside from the fundamental weakness in the economy, the risk of a messy CUSMA trade deal negotiation appears "underappreciated," pointed out Desjardins. A negative CUSMA outcome is the single greatest risk to the Canadian economy.
Likely, the United States, Canada and Mexico won't agree to a 16-year extension of the deal by the July 1 deadline, added the bank. That doesn't necessarily spell disaster, given that CUSMA would still be in force, but it does point to a prolonged period of uncertainty during which President Donald Trump could "inject volatility."
With that in mind, the BoC will need to strike a more balanced tone in its policy statements, according to the bank. Doing so will include acknowledging the weakness in the economy as well as highlighting the limited pass-through from higher oil prices to other goods and services prices.
Central bankers should refrain from reiterating that "there may be a need for consecutive increases in the policy rate." In April, the GC was at pains to explain that the illustrative high oil price scenario wasn't a full-blown alternative scenario with all of the associated modelling. Instead, it was more like a thought experiment meant to sketch out a unique situation.
That nuance was evidently lost on markets, which swiftly priced in tighter monetary policy, turning an act of transparency into another communications misstep. Traders should beware that the BoC has a history of "misguiding" markets, said Desjardins.
But the bank doesn't expect the BoC will need to cut rates either. Its baseline forecast still includes a boost from fiscal policy, a fading headwind from tariff uncertainty and a return to positive population growth towards the end of this year. All else being equal, the economy is expected to recover from its current malaise without any monetary support.
However, should the CUSMA negotiations fall apart, Canadian central bankers will need to respond with lower rates, and all this talk about consecutive rate hikes will look even more "ill-founded," noted the Desjardins.