Easing trade tensions and slowing growth support additional monetary policy easing
Royal Bank of Canada (RBC) economists expect further interest rate cuts from both the Bank of Canada and the US Federal Reserve this year, citing early signs of trade war de-escalation and shifting economic conditions in both countries.
In a recent update, RBC’s Nathan Janzen and Claire Fan said the global economic outlook has changed little since last month, but “risks are tilting less to the downside” following a calmer period after aggressive US trade actions in March and April.
“We are surprised that we aren’t more surprised,” the economists wrote, noting that while most US tariffs remain in place, the most disruptive measures have been reduced earlier than expected.
New tariffs on US auto parts, originally set to begin in May, were softened, particularly for Canadian and Mexican components that comply with USMCA rules. In addition, planned 100%+ bilateral tariffs between the US and China were sharply reduced.
Although over 75% of US imports are still facing at least 10% tariffs, and further tariff reductions below that threshold may be limited, RBC economists say the trend is positive enough to warrant moderate economic upgrades.
“Developments since early April have been broadly consistent with our base case assumption that tariffs would moderate later in 2025 but won’t disappear,” they noted in the forecast.
Rate cuts ahead?
RBC still anticipates additional interest rate cuts from both central banks this year, though they acknowledge that the BoC and Fed are “in different positions now.”
“The BoC is near the end of its rate cutting cycle – we expect two more cuts as the benefit of 225 basis points of cuts in the system continues to work through the economy,” they wrote.
Meanwhile, the Fed faces more constraints due to persistently high inflation.
“The Fed has far less room in the near-term,” they added.
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However, RBC forecasts that by September, US economic conditions will soften enough for the Fed to start a steady rate-cutting cycle, potentially delivering three cuts by year-end and reducing the federal funds rate to 2.75%–3% by the end of 2026.
The risk, they cautioned, is that the Fed may be forced to cut less aggressively if inflation remains stubbornly above target.
Easing tariff pressures
RBC revised its US Q2 GDP forecast higher based on better-than-expected consumer spending and solid job growth. While Q1 GDP was down 0.3% (close to the forecasted -0.5%), stronger late-quarter activity supports a more optimistic view going into the second half of the year.
However, the US labour market is expected to cool further, with the unemployment rate now projected to rise to 4.7% this year, slightly lower than the previously forecasted 4.8% peak.
In Canada, projections for GDP and unemployment remain mostly unchanged. The country’s unemployment rate rose to 6.9% in April, up from 6.6% in January, reflecting weaker labour market conditions. While recent trade developments led to a small GDP upgrade, overall economic momentum is still expected to remain moderate, with unemployment forecasted to reach 7.1% later in 2025.
RBC expects tariffs to continue raising input and consumer costs on both sides of the border but sees greater inflation pressure in the US due to broader tariff coverage. Over 75% of US imports face tariffs, compared to less than 10% in Canada.
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