Bank of Canada cuts interest rate, warns of US tariff impact

Central Bank cuts rates for sixth straight time amid ongoing economic challenges, with inflation within target range.

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The Bank of Canada (BOC) has reduced its key policy rate by 25 basis points to 3 per cent, cutting its growth forecasts and raising concerns over the economic impact of a potential tariff war with the United States.

This marks the sixth consecutive rate cut by the central bank, reflecting ongoing challenges in Canada’s economic performance despite inflation remaining within the BOC's target range of 1-3 per cent.

Governor Tiff Macklem warned that a prolonged trade conflict with the US could significantly harm Canada’s economy. "A long-lasting and broad-based trade conflict would badly hurt economic activity in Canada," Macklem said.

US President Donald Trump has announced plans to impose a 25 per cent tariff on all imports from Canada, starting on Saturday. Given that Canada exports 75 per cent of its goods and services to the US, such tariffs could have a severe impact.

In a hypothetical scenario, the BOC outlined the potential consequences of retaliatory tariffs, noting that Canada’s GDP could drop by 2.5 percentage points in the first year and another 1.5 percentage points in the second year. However, this projection is not a formal forecast.

Despite inflation being near the midpoint of the bank’s target, Canada’s economic growth remains sluggish. The BOC’s decision to cut interest rates is seen as a response to weak economic activity, with inflation staying around 2 per cent.

This is the sixth time in a row the bank has reduced borrowing costs. The Canadian dollar weakened by 0.3 per cent to 1.44 against the US dollar following the announcement.

Markets are speculating that there is a 43 percent chance of another rate cut during the BOC’s next monetary policy meeting in March.

Doug Porter, Chief Economist at BMO Capital Markets, highlighted that the BOC could become more aggressive in rate cuts if the US tariffs materialise, given the dual pressure of rising inflation and slowing growth.

The central bank also revealed that it would end its quantitative tightening program, which was aimed at reducing excess liquidity in the economy. Meanwhile, the BOC lowered its economic growth forecast for 2025 to 1.8 per cent, down from the 2.1 percent predicted in October.

The outlook for 2026 was similarly revised down to 1.8 per cent from 2.3 percent. Inflation projections were adjusted upward, now forecasting 2.3 percent in 2025 and 2.1 per cent in 2026.

In the face of continued economic contraction on a per-capita basis, Canada’s economic prospects remain uncertain, further compounded by new federal immigration restrictions that could lead to a slight population decline in 2025 and 2026.