The Bank of Canada trimmed its policy interest rate the target for overnight lending rates by a more gradual pace of 25 basis points to 3.0% in a pre-emptive move to help shield the economy from the threat of stiff tariffs on its exports to the United States. It follows two consecutive large-size 50-basis point cuts, in December and October, and three 25-basis point cuts since June when the bank began unwinding the effects of its past aggressive tightening. It has now delivered a total 200 basis points (2.0 percentage points) in credit easing in just seven months.

The bank also announced its plan to complete the normalization of its balance sheet, ending quantitative tightening. It will restart asset purchases in early March, beginning gradually so that its balance sheet stabilizes and then grows modestly, in line with growth in the economy.

"The cumulative reduction in the policy rate since last June is substantial," the bank said, repeating its recent view."Lower interest rates are boosting household spending and, in the outlook published today, the economy is expected to strengthen gradually and inflation to stay close to target."

"However, if broad-based and significant tariffs were imposed, the resilience of Canada's economy would be tested," the bank said.

Governor Tiff Macklem told a news conference that the U.S. trade policy is a major source of uncertainty and that there are many possible scenarios: It is not certain what new tariffs will be imposed, when or how long they will last. Nobody knows the scope of retaliatory measures or what fiscal supports will be provided.

"Having restored low inflation and reduced interest rates substantially, monetary policy is better positioned to help the economy adjust to new developments," the governor said."As always, the bank will be guided by our monetary policy framework and our commitment to maintain price stability over time."

Asked whether reviving quantitative easing (buying large sums of government bonds and other financial assets) is the cards to ward off what could be a severe negative impact of the Trump tariffs, the government responded in a firm tone:"We are a long way from needing quantitative easing." In the bank's recent review of its own usage of QE during the pandemic,"What we concluded was that the bar for using quantitative easing in Canada has always been very high, and in fact we've only used it once."

After two straight 50 bp rate cuts, the BOC is expected to slow down – for now. Forecasters uniformly look for a 25 rate cut. They are watching for more aggressive cuts later in the year given the weak inflation picture and downside risks if Tariff Man delivers on his threats.

Canada's central bank, the Bank of Canada (BoC), announces its monetary policy with regard to interest rates eight times a year. The announcement conveys to the financial markets and investors what, if any, changes in policy might be. The main focus is the target set for the overnight rate. Policy is framed around keeping the annual rate of inflation as measured by the consumer price index (CPI) within a 1 percent to 3 percent range and close to the 2 percent midpoint over the longer-run. To this end, the BoC also monitors an adjusted measure of the CPI that excludes a range of volatile categories in order to get a better handle on underlying trends.

Bank of Canada determines interest rate policy at eight meetings during the year and they are an influential event for the markets. Prior to each meeting, market participants speculate about the possibility of an interest rate change. A post-meeting statement is issued after each meeting. Unlike the Federal Reserve, there are no post-meeting minutes. The Bank has an inflation target range of 1 percent to 3 percent with specific focus on the 2 percent midpoint.

Although the Bank monitors many economic indicators, as indeed all central banks do, the Bank converted its inflation barometer for operational purposes to a consumer price index measure that subtracts eight volatile components to better reflect core inflation. It also takes the foreign exchange rate for the Canadian dollar into its monetary policy decisions.

Monetary policy goals are to aid and abet solid economic growth along with rising living standards. To achieve these goals, inflation is kept low, stable, and predictable. The inflation control target is at the heart of Canadian monetary policy that the Bank and the Government have established. The level of interest rates and the exchange rate determine the monetary environment in which the Canadian economy operates.

The level of interest rates affects the economy. Higher interest rates tend to slow economic activity; lower interest rates stimulate economic activity. Either way, interest rates influence the sales environment. In the consumer sector, few homes or cars will be purchased when interest rates rise. Furthermore, interest rate costs are a significant factor for many businesses, particularly for companies with high debt loads or who have to finance high inventory levels. This interest cost has a direct impact on corporate profits. The bottom line is that higher interest rates are bearish for the financial markets, while lower interest rates are bullish.