The Zhitong Finance App learned that the Bank of Canada announced on Wednesday that it would raise the benchmark overnight interest rate to 2.5%, the first rate hike in more than three years to deal with the risk of inflation brought about by the continued rise in energy prices. At the same time, the central bank warned that interest rates may be raised further in the future, but given the high uncertainty of the economic outlook, subsequent policy adjustments will remain cautious. The interest rate hike is in line with the general expectations of the market, and is also in line with the consensus of economists in the media survey.
The Bank of Canada stated in its policy statement that the Governing Council decided to raise the policy interest rate mainly to reduce the risk that continuing high energy prices will spread widely to the prices of other goods and services. The central bank stated, “It may be necessary to further raise policy interest rates in the future, but in view of the current uncertainty, the Management Committee agreed to proceed with caution.”
Since September of this year, the Bank of Canada has been increasingly concerned about the rise in oil prices caused by the Middle East conflict. In particular, it is worried that the rise in energy costs will gradually spread to other goods and services, leading to further expansion of inflationary pressure.
Bank of Canada Governor Macram said in a pre-prepared speech that in view of the obvious deterioration in inflation prospects and the Canadian economy still showing some resilience, raising policy interest rates is necessary to reduce the risk that rising energy prices will evolve into generalized inflation.
Inflation expectations have risen sharply, and it is expected that it will not return to the 2% target until mid-2028
The latest monetary policy report released along with the interest rate decision shows that the Bank of Canada has raised its future inflation expectations sharply. The central bank currently expects the Canadian Consumer Price Index (CPI) to rise by 3.1% year on year in 2027, which is significantly higher than the 2.0% forecast previously.
Meanwhile, the central bank anticipates that the inflation rate will not return to the 2% policy target until mid-2028, indicating that the impact of rising energy prices on overall prices may last longer than previously anticipated.
Macram pointed out that the main reason for this rate hike is that energy prices have already risen and are expected to remain high for a long time, while the cost pressure faced by companies continues to accumulate. He said that the central bank management committee believes that the space for continuing to maintain loose monetary policies has shrunk.
The latest monetary policy report also revealed some analysis results of Prima, the Bank of Canada's new forecasting tool. The model shows that rising production input costs such as energy may gradually be transmitted to consumers through corporate pricing, causing price increases to remain high for a longer period of time.
However, Macram also revealed that the central bank had discussed the possibility of keeping interest rates unchanged at this meeting. Reasons supporting the suspension of interest rate hikes include that the current rise in inflation is still mainly concentrated in the energy sector, the Canadian economy still has some idle production capacity, and the tariff dispute with the US may continue to drag down economic growth.
Macram stressed that the central bank management committee agreed that in the future, interest rate decisions will be made one by one based on the economic data and situation obtained during each meeting.
Economic growth expectations have been raised, but the employment and real estate markets are still under pressure
Despite rising inflation risks, the Bank of Canada's judgment on future economic growth has improved. According to the latest forecast, the Canadian economy is expected to grow by 1% in 2026 and by 2% in 2027 and 2028.
In contrast, the central bank had anticipated economic growth of 0.7% in 2026, with 1.8% growth in 2027 and 2028.
The central bank said that part of the reason for the increase in growth expectations is the economic support measures introduced by the federal government, including the “productivity super deduction” tax preferential policy implemented by Prime Minister Carney's administration and the acceleration of large-scale project construction.
However, the foundation for the overall recovery of the Canadian economy is still uncertain. Recent data shows that the Canadian job market has experienced a decline in jobs for two consecutive months, while the US tariff policy and the decline in the number of immigrants are also putting pressure on some industries. Meanwhile, the real estate market remains weak.
It is worth noting that the Bank of Canada is no longer providing predictions of core inflationary pressure this time.
Market reaction is lackluster, economists expect another rate hike in December
After the Bank of Canada announced the interest rate decision, the reaction of the financial market was relatively calm. There was little change in the Canadian dollar exchange rate, which was reported at 1.4046 Canadian dollars per US dollar. Since October this year, the Canadian dollar has accumulated a cumulative appreciation of about 1.3% against the US dollar.
The Canadian bond market also showed no significant fluctuations. The yield on two-year treasury bonds declined slightly, but it was still within the trading range of the day.
Meanwhile, the situation in the Middle East remains an important uncertain factor affecting Canada's monetary policy prospects. Currently, there is no clear sign of an end to the war in Iran, and international oil prices are still close to the high levels at the beginning of the conflict. As of Wednesday morning, the price of Brent crude was slightly below $115 per barrel.
Servus Credit Union chief economist Charles St-Arnaud said that although Macram did not explicitly promise further interest rate hikes, he would be surprised if the Bank of Canada did not raise interest rates again in December. St-Arnaud believes that if the central bank chooses to suspend interest rate hikes, it may be necessary to see a marked weakening of economic activity or a lower than expected rate of inflation growth.
Overall, the Bank of Canada's interest rate hike marks a new shift in monetary policy tightening. Despite improvements in economic growth expectations, continued high energy prices and their potential inflationary transmission effects have become the central bank's main policy concern at present.
Future interest rate trends will depend on changes in energy prices, inflation data, and economic activity. If high energy costs continue to be transmitted to the prices of other goods and services, the Bank of Canada may need to take further action to ensure that inflation eventually returns to the target level of 2%.