Treasury
BMO on The Day Ahead in Canada
The Bank of Canada will make its policy announcement at 9:45 a.m. ET on Wednesday, said Bank of Montreal (BMO).The bank sees the BoC firmly on hold at 2.25% and suspects that some of the hawkishness that lined the April proceedings will be toned down at this meeting.Since the last meeting, oil prices have declined US$10 to US$15 per barrel, the core consumer price index came in tame for a seventh consecutive month and gross domestic product contracted for a second straight quarter in Q1, though employment made a sharp U-turn higher in May.Some concern about energy prices will likely persist as oil is still near US$90/barrel and extremely volatile, but there's no reason to argue the BoC should be raising rates anytime soon, stated BMO.Q1 GDP growth came in well below expectations at a 0.1% contraction, also missing the BoC's April Monetary Policy Report forecast of 1.5%. That's a notable miss and points to increasing economic slack, pointed out the bank. The BoC estimated that the output gap was -1.5% to -0.5% in Q1, but that was using its firmer Q1 growth forecast.So the best-case scenario is that the gap is at the wider end of the estimated range. While energy prices are a factor in the outlook for inflation, a persistent output gap drives ongoing disinflationary pressure as businesses have trouble passing along price increases in a weak economy. The output gap is a major driver of BoC policy, and with oil prices pulling back, it should take on even greater importance.Back-to-back negative quarters for GDP aren't consistent with a hawkish tone from the BoC. It wasn't all bad news on the economic front, though, as the April GDP flash estimate was solid at 0.4% month-over-month climb, pointing to a rebound in Q2 growth.May employment quickly silenced the recession doomsayers. The unemployment rate remains elevated at 6.6%, but has held in a 6.5%-to-7% range for most of the past two years. The Canadian economy has seen uneven growth since trade uncertainty exploded last year, but it has managed to hang in there.The persistent deceleration in core CPI is another key reason for the BoC to tone down April's hawkishness, added BMO. Nearly every core metric has improved in recent months, pointing to an ongoing easing of price pressures. April's CPI report showed no evidence of broader pass-through, though energy prices pushed the headline rate higher.However, it's still early days and the bank cannot rule out some spillover from energy into other items. Indeed, that is an ongoing concern for policymakers until energy prices retreat sufficiently and stabilize. Even so, a soft inflation report and lower energy prices since the last meeting should dampen policymakers' hawkish inclinations.All in, the breadth of evidence points to a somewhat less hawkish tone from the BoC than in April. It's challenging to rationalize threatening consecutive hikes again, given how the macro backdrop has evolved, according to BMO. The bank looks for more balanced language in this policy statement.There's little impetus to move rates in either direction at the moment, consistent with BMO's view that policy rates will remain unchanged through the rest of 2026.The Canadian dollar (CAD or loonie) starts Wednesday on a stable footing at $1.393/USD ($71.8 US cents), said the bank.
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