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Economists at Odds With Investors on Rate Forecasts

Aug. 23, 2019
3 mins
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The Bank of Canada doesn’t want to have to cut rates. Until recently, it had been warning Canadians that rates could rise. It’s trying its best to avoid any messaging that might lead homeowners to over-borrow.

But now its hand may be forced.

Investors are increasing their bets on a Bank of Canada rate cut. Bond markets are now estimating an 86% chance of a rate cut by December 4.

But judging by Big Six bank forecasts, the future isn’t so clear.

Banks are decidedly more cautious. Case in point, their official rate forecasts:

Big Six Bank Forecast Table

Scotiabank is the only one predicting a rate cut by year-end.

Jean-François Perrault, Scotiabank’s chief economist, said in a research note that central banks around the world are lowering rates to ward off economic downturns. “We now believe the Bank of Canada will follow those that cut rates to insure against potential damage,” he wrote.

“While, in our view, domestic conditions don’t warrant a rate cut given inflation is at target, real policy rates are already negative, the housing market is strengthening, and wage growth is very strong, the balance of risks to the inflation outlook is shifting,” he added. “A risk management approach to managing inflation can justify a 50-basis points reduction in the Bank of Canada’s policy rate.”

Jargon Buster: One “basis point” (bps) is 1/100th of a percentage point. So, 50 bps = ½ percentage point.

Looking Out to 2020

Scotiabank’s forecast calls for the first 25-bps cut on October 30, followed by a second reduction in the first quarter of 2020.

Back in December, CIBC was the first of the Big Six banks to forecast a rate cut by the bank of Canada, albeit not until the second quarter of 2020.

“We’ve long been in the camp that Canadian central bankers were done with rate hikes, but now see it likely that a widening output gap in 2020 will force the bank’s hand to stay true to its inflation target,” wrote Royce Mendes and Ian Pollick at the time.

Bond markets are effectively pricing in a 100 percent chance of a 25-bps cut by the second quarter of 2020, and a 50 percent chance of a second rate cut by then, according to Westpac.

Bank Forecasters Playing Catch-up

Some of the other Big Six banks are now adopting similar forecasts. And we expect more of the same. Within the past month, for example, RBC adjusted its call from a hold to a 25-bps rate cut in 2020.

Scotiabank, meanwhile, has added an additional rate cut to its forecast. It now calls for a second 25-bps rate cut in 2020 to bring the overnight target rate back down to 1.25%.

While National Bank of Canada also lowered its rate forecast for 2020 by 25 bps, it is currently the only bank forecasting a rate increase next year to 2%.

“With the annual core inflation rate right on its two per cent target, the Bank of Canada won’t follow any loosening of monetary policy by the Federal Reserve this year, unless of course financial conditions deteriorate enough as to jeopardize the outlook for the second half of 2019,” wrote Krishen Rangasamy in a research note.

Over at TD Bank, economists Beata Caranci and James Orlando explained their call for flat rates through to the end of 2020:

“Some market commentators believe that the Bank of Canada will need to cut rates in order to prevent an escalation in the Canadian dollar from choking off exports. This view is too simplistic,” they wrote. “Markets are pricing that the spread between Canadian and U.S. overnight interest rates will be -10 bps by the end of 2020 versus a current spread of around -70 bps. That large swing should be already largely reflected within the exchange rate.”

TD does add, however, that “should the global economy weaken further and the Federal Reserve responds by cutting more than we expect, then it would be reasonable to expect the Bank of Canada to join the global coalition of central banks and easy monetary policy.”

Mortgage Impact

If more people start buying into the above forecasts, short-term fixed rates will gain popularity. They’re priced well below variable rates (at least 25 to 50 bps).

Short-term mortgages have three other advantages, too:

  1. They let borrowers renegotiate sooner (that’s helpful if interest rates fall or you need to refinance)
  2. They reduce the chances you’ll have to break the mortgage early and pay a penalty
  3. You don’t have to worry about big banks refusing to pass along full Bank of Canada rate cuts (that’s a genuine worry given the banks’ track record).
Steve Huebl

Steve Huebl is the operations manager for and a regular contributor to RATESDOTCA.

At the age of 15, Steve founded a neighbourhood newsletter that eventually grew to a circulation of hundreds and was supported by over a dozen local advertisers. He later honed his writing and editing talents at The Toronto Star, The Calgary Herald, the Sarnia Observer and Canadian Economic Press. He also worked for several years as a chief English writer of the McGill University Health Centre’s marketing office. Born and raised in Toronto, he now calls Montreal home. When he’s not writing about mortgages, Steve can be found appreciating nature — typically along the shores of the St. Lawrence.

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