Bank of Canada Cuts Key Interest Rate to 3.25 Percent

Bank of Canada governor Tiff Macklem holds a press conference at the central bank in Ottawa on Oct. 23, 2024. The Canadian Press/Sean Kilpatrick

The Bank of Canada announced a 50 basis point reduction of its key interest rate, warning that Canada’s economic outlook sees increased uncertainty due to the threat of tariffs by the incoming U.S. administration.

The central bank reduced the policy rate from 3.75 percent to 3.25 percent on Dec. 11, the fifth consecutive rate cut since June 2024. While the bank said these cuts have successfully brought inflation back down to around its 2 percent target, several factors have led it to believe economic growth in 2025 may be lower than forecasted.

“The economic outlook is clouded by the possibility of new tariffs on Canadian exports to the United States,” Bank of Canada governor Tiff Macklem said in the Dec. 11 rate announcement. “No one knows how this will play out in the months ahead—whether tariffs will be imposed, whether exemptions get agreed to, or whether retaliatory measures will be put in place. This is a major new uncertainty.”

Incoming U.S. President Donald Trump has threatened to implement 25 percent tariffs on Canada and Mexico if they fail to adequately boost their border security and stop illegal immigration and drug smuggling into the United States.

The Bank of Canada said the Canadian economy grew by 1 percent in the third quarter of 2024, which was “somewhat below the Bank’s October projection.” The central bank said this growth was pulled down by lower business investment, inventories, and exports, while consumer spending and housing activity both picked up.

The unemployment rate rose to 6.8 percent in November, and Macklem said it has been “especially hard” for young people and new immigrants to find work.

The bank said Canada’s dollar has depreciated in value in the face of the U.S. economy’s “broad-based strength” and “solid labour market,” while Europe has suffered from weaker growth and China has seen stronger exports supporting growth although household spending remains subdued.

Inflation has been around 2 percent since the summer and is expected to average “close to” this target over “the next couple of years,” the bank said. It added that the upward pressure from shelter and downward pressure from goods prices have “both moderated as expected.”

In March 2022, the Bank of Canada began raising interest rates in response to high inflation caused by the COVID-19 pandemic, disrupted supply chains, increased government spending, and elevated energy prices. Rates increased from 0.25 percent in March 2022 to 5 percent in July 2023, while inflation rose from 2.2 percent in March 2021 to 8.1 percent in June 2022.

The central bank first reduced its key rate to 4.75 percent in June 2024 in response to lowered inflation, then reduced it by an additional 25 basis points in both July and September and 50 basis points in October.

The bank said the federal government’s recently announced reductions in target immigration levels are likely to lower GDP growth, with the effect on inflation likely “more muted” given that  both demand and supply will dampen. Ottawa announced in October that immigration targets will fall from 500,000 new permanent residents in both 2025 and 2026, to be lowered to 395,000 in 2025 and 380,000 in 2026. It will dropped further to 365,000 in 2027.

The federal government’s two-month GST holiday—which takes the tax off items such as some grocery goods, restaurant meals, alcoholic beverages, and certain products for children—is expected to temporarily lower inflation to around 1.5 percent in January 2025, the bank said. It said it expects this inflation reduction to be “unwound” when the GST break ends in mid-February.

The bank said inflation could fall further if Canada’s economy continues “growing below its potential,” while elevated wage increases, weak productivity, and U.S. tariffs could push inflation higher.

Macklem said that with the central bank’s policy rate now “substantially lower,” it anticipates a more gradual approach to future monetary policy.

“Going forward, we will be evaluating the need for further reductions in the policy rate one decision at a time,” Macklem said.