On Wednesday September 4th at its regular policy meeting, the Bank of Canada (BoC) reduced the policy rate by  0.25 per cent, bringing it down to 4.25 per cent. This is the third rate drop in a row from the BoC (all happening since June), and as before the rate reduction will quickly be passed through by banks and mortgage lenders to customers with variable rate mortgages and lines of credit.

For variable rate mortgage holders whose mortgage payments change with prime (some lenders call these adjustable rate mortgages) this will mean a decrease in mortgage payment of about $15 per one hundred thousand of mortgage debt (assuming a 25 year amortization).

Why did the Bank of Canada cut the policy rate?

There are three significant factors that Governor Tiff Macklem referred to as influencing the decision to cut: reasonable but fragile economic growth, a weak labour market, and easing inflation for most goods and services.

First, economic growth for the second quarter came in at 2.1 per cent, which made the combined growth for the first half of 2024 just under 2 per cent. This is positive compared to the near-zero growth over the last half of 2023, but isn’t showing any signs of overheating. In fact, preliminary data from the last 2 months seem to show some further weakness and could drag down economic growth to below projected levels.

Next, the labour market has softened significantly since last year, especially for youth and newcomers to Canada. Rising unemployment (now at 6.4 per cent) combined with cutbacks in hiring are expected to increase the ‘slack’ in the labour market, which significantly reduces the risk of further wage growth driving up inflation.

Last but not least, price inflation continues to ease across most categories of goods and services. The consumer price index (CPI) inflation came down to 2.5 per cent in July, making for a long term steady trend of decline this year. The big exception to this trend is the category of shelter price inflation, which includes mortgage and rent costs, and that remains high largely due to the BoC maintaining their high policy rate (which drives up borrowing costs for mortgages and lines of credit). This affects homeowners directly (through higher mortgage payments) and renters indirectly (because the landlord has a higher mortgage payment and passes that cost through to the renter in higher rents), so as the BoC eases the policy rate moving forward, we should expect to see this category if inflation begin to drop as well.

What’s next for the policy rate?

In his comments this morning, the BoC Governer Tiff Macklem said that “if inflation continues to ease broadly in line with our July forecast, it is reasonable to expect further cuts in our policy rate. We will continue to assess the opposing forces on inflation, and take our monetary policy decisions one at a time.” In banker-speak, that’s a pretty strong acknowledgement that more rate cuts are coming in pretty quick succession. 

South of the border, where the unemployment rate has increased almost a full percentage point over the last 12 months to now sit at 4.3 per cent, the U.S. Federal Reserve Chair Jerome Powell said in a speech on August 23rd that “the time has come for policy to adjust. The direction of travel is clear, and the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks…with an appropriate dialing back of policy restraint, there is good reason to think that the economy will get back to 2 percent inflation while maintaining a strong labor market.”

It is widely expected that the U.S. Fed will announce a rate cut later this month as the start of a “slow-and-steady” easing of rates that will continue through 2025.

Barring any radical unforeseen international events, we expect the BoC will give us another 0.25 per cent rate cut this fall, and we expect to see regular rate cuts through 2025 adding up to another 1 per cent total rate decrease over the calendar year.

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