Two factors are likely to be decisive on when the Bank of Canada will hike interest rates, said Commerzbank.
First, is whether the Canadian real economy will finally pick up again in the second half of the year, including a stronger labor market, the bank wrote.
The situation at the end of last year was basically a repetition of the year before that. Once again, Commerzbank saw unexpectedly strong job growth. This is all the more remarkable given that labor supply is currently rising by only a few thousand per month. As a consequence, the unemployment rate has fallen by 0.4 percentage point.
However, in recent months, significantly more jobs have been cut again, which underscores the volatility of the Canadian labor market over the past year and a half, stated the bank. Other data continues to show only a weak recovery, if any: while month-on-month growth is positive again, it remains at a very low level.
In addition, the purchasing managers' indices (PMIs) are highly volatile, despite the key index for the manufacturing sector rising significantly in April. The performance of the Canadian real economy is also likely to depend heavily on developments in the United States, where strong growth is evident, although with a less robust labor market.
Secondly, the outcome of the negotiations on extending the USMCA trade agreement, which are set to begin in July, will also be "crucial," pointed out Commerzbank. While the U.S. president regularly emphasizes that Canada would benefit most from an extension, given the mutual dependencies, extending a large proportion of the exemptions is likely to be in both countries' interests.
For Canada, however, the state of bilateral relations is more important than the exact scope of the exemptions, added the bank. Only once there is sustained stabilization is the Canadian real economy likely to recover.
This was evident in January, when Canadian PMIs plummeted again following another verbal attack by the U.S. president, mirroring the trend in job creation.
The BoC made clear last week that it's in no hurry to raise interest rates, as the current level of the policy rate is appropriate for the foreseeable future. Commerzbank continues to view expectations of two rate hikes by the end of the year as ambitious.