The Bank of Canada (BoC) started 2025 by lowering its interest rate again. On January 29, the BoC announced it’s cutting its rate by 0.25%, bringing it down to 3%. This follows a bigger cut of 0.50% in December.

This smaller rate cut was expected, as the economy is showing some signs of strength, so the BoC wants to keep supporting growth but not as aggressively as before. With inflation around 2% and the economy still having more supply than demand, the BoC decided to make this rate cut to help boost spending and keep inflation in check.

For Canadians with variable rate mortgages, this rate cut could mean more of their payment goes towards paying off the loan, rather than interest. However, people with fixed-rate mortgages won’t see an immediate change because their rates are based on five-year bond yields, not the BoC’s rate.

The BoC hopes these lower rates will help the economy improve, but if major new tariffs are introduced, it could cause uncertainty for Canada’s economic strength.

Let’s Look at some Key Factors that went into Today’s Decision:

Canada’s growth outlook revised down compared to October Report.

• Q3 2024 GDP: 0.5 percentage points lower than projected, driven by weaker inventory investment, exports, and business investment.
• Offset: Stronger-than-expected growth in consumption and government spending.

GDP growth projections for 2025 and 2026:

• Lower by 0.3 percentage points in 2025 and 0.5 percentage points in 2026, mainly due to revised population growth assumptions (impacted by immigration policies and non-permanent resident outflows).

Consumption growth:

• Revised up by 0.9 percentage points in 2025, due to slower decline in wage growth.
• Revised down by 0.5 percentage points in 2026 due to slower population growth.

Business investment:

• Lower by 2.8 percentage points on average, due to weaker demand and U.S. trade policy uncertainty.
• Weaker Canadian dollar expected to reduce investment by 1% by 2026.

Export growth:

• Revised down by 1.8 percentage points on average for 2025 and 2026, due to past weakness and expected sluggish performance.

Inflation:

• Temporary GST/HST holiday lowers inflation in Q4 2024 and Q1 2025.
• Revised up for Q1 2026 due to base-year effect of the tax cut.
• Excluding tax holiday, inflation is slightly higher due to reduced excess supply, stronger oil prices, and higher import prices from the lower Canadian dollar.
• Partial offset by lower inflation in shelter prices.

Additional Rationale of Today’s Reduction

Canada’s growth outlook has been lowered compared to earlier projections. For the third quarter of 2024, GDP growth was 0.5 percentage points lower than expected, mainly due to weaker investment in inventory, exports, and business. However, stronger-than-expected consumer spending and government spending helped balance this out. Growth projections for 2025 and 2026 have also been cut by about 0.3 and 0.5 percentage points, mainly because of changes in population growth forecasts due to new immigration policies and shifts in the number of non-permanent residents.

For 2025, consumption growth is expected to be 0.9 percentage points higher, as wage growth is expected to decline slower than previously thought. However, in 2026, consumption growth is expected to be 0.5 percentage points lower, due to slower population growth. Business investment is expected to grow 2.8 percentage points less than originally forecast, mainly because of weaker demand. Ongoing uncertainty around U.S. trade policy and a weaker Canadian dollar are also expected to reduce investment by about 1.5% by the end of 2026. Export growth for 2025 and 2026 is downgraded by 1.8 percentage points on average, due to weaker-than-expected performance in the past and a continued slow recovery. Imports are also expected to grow slower than expected because of weaker domestic demand.

Revisions to past data show that Canada’s economy has been performing better than previously thought, particularly in business investment and consumer spending. As a result, the economy now has less unused capacity than expected, narrowing the gap by about 0.3 percentage points. Growth in potential output for 2025 and 2026 is now projected to be slightly lower due to slower population growth, although stronger productivity should partially offset this.

The government’s temporary GST/HST holiday has led to changes in inflation projections. Inflation is expected to be lower in the short term due to the tax cut, but higher in the first quarter of 2026 because of the base effect from the temporary cut. Without the impact of the tax holiday, inflation is expected to be a little higher, driven by reduced excess supply, higher oil prices, and higher import costs due to the weaker Canadian dollar. However, lower inflation in housing costs and a weaker starting point for inflation overall will help offset some of these pressures.