Bank of Canada holds at 2.25% as growth improves, inflation sticky

The Bank of Canada held its benchmark rate at 2.25% for a sixth straight meeting, raising its 2026 inflation forecast to 2.5% while cutting this year's growth outlook to 0.7%.

Governor Tiff Macklem's Bank of Canada held rates at 2.25% on Wednesday for the sixth consecutive meeting, lifting its near-term inflation forecast on higher oil prices and a weaker loonie while cutting 2026 growth projections to 0.7%.

"After a year of weakness, Canada's economy is showing signs of improvement," the bank said in its monetary policy report. "Growth is expected to pick up, and inflation eases gradually from its recent peak. Uncertainty is still high."

The Canadian dollar traded little changed at C$1.4057 per U.S. dollar after the decision, while the two-year government bond yield fell about four basis points to 2.83%. Swaps markets continue to price roughly 20 basis points of tightening from the bank by December, suggesting traders see a modest chance of a rate increase before year-end.

The decision leaves the Bank of Canada navigating a stagflationary undertow: higher energy-driven inflation alongside an economy that expanded at just a 0.7% annualized pace in the first half. Policymakers project headline inflation will return to the 2% target by early 2027, but that forecast hinges on Brent crude falling to $70 a barrel by end-2027 — a level that assumes the Middle East conflict does not escalate further.

The central bank's updated forecasts show an economy healing but far from healthy. GDP is estimated to have grown at a 2.5% annualized rate in the second quarter, slowing to 1.5% in the third. For the full year, policymakers cut their 2026 growth projection to 0.7% from a prior estimate, before lifting 2027 and 2028 forecasts to 1.8% each — a trajectory that implies a slow recovery rather than a snapback.

On inflation, the bank raised its 2026 headline forecast to 2.5% from 2.3%, citing higher oil prices, elevated gasoline refinery margins and a weaker Canadian dollar. The May CPI reading hit 3.2%, driven largely by gasoline supply uncertainty, though core inflation stood at 2.2%. Officials said the breadth of underlying price pressures is narrowing, indicating that higher energy costs are not yet spilling over into other goods and services.

The last time the Bank of Canada cut rates was October 2025, when it delivered a 25-basis-point reduction. Since then, the economy has faced a deteriorating trade backdrop: the U.S. declined to renew the Canada-U.S.-Mexico Agreement for another 16 years, triggering a rolling annual review that could last up to a decade. The interim peace agreement between the U.S. and Iran also appears fragile, adding to the uncertainty that Macklem cited in his statement.

Trade Uncertainty and the Policy Path

The bank removed language from its prior two statements warning that consecutive rate hikes might be needed if the Middle East conflict pushed energy prices higher. It also dropped a warning about potential cuts if the U.S. imposed major new trade restrictions. The shift suggests policymakers see the balance of risks as more symmetric than earlier this year.

Still, the bank identified several upside risks to inflation. Businesses passing on higher input costs to consumers remains a primary concern, as does the possibility that productivity estimates are weaker than assumed — which would imply a smaller output gap and more inflationary pressure. On the downside, a potential tightening of global financial conditions or a weaker-than-expected domestic recovery could pull inflation below the bank's path.

Cross-Asset Transmission

The hold was widely expected — economists in a Bloomberg survey and overnight swap markets had priced in no change — so the market impact was muted. The two-year yield's four-basis-point decline suggests bond traders focused on the weaker growth outlook rather than the higher inflation forecast. The Canadian dollar's stability around C$1.4057 reflects a market that sees the Bank of Canada on hold for the foreseeable future, caught between sticky inflation and fragile growth.

The bank's assumption that Brent crude will fall to $70 a barrel by end-2027, based on the July 9 futures curve, provides a reference point for energy sector expectations. If oil prices remain elevated due to Middle East instability or supply disruptions, the inflation forecast would need to be revised higher, potentially delaying the return to the 2% target beyond early 2027.

The next rate decision is scheduled for September. If the economy continues to improve as the bank expects and inflation eases gradually, the Bank of Canada could remain on hold through year-end. But if growth disappoints or trade tensions escalate, the market's current pricing of 20 basis points of tightening could quickly reverse into expectations for a cut.

This article is for informational purposes only and does not constitute investment advice.