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The Bank of Canada (BoC) decided to keep its key interest rate at 2.25% at its latest meeting on Wednesday. While maintaining the status quo, Governor Tiff Macklem issued a stark warning that the central bank will not hesitate to raise borrowing costs if the surge in energy prices caused by the Iran war begins to spill over into other sectors of the economy.
Macklem acknowledged that the closure of the Strait of Hormuz will put upward pressure on gasoline prices and domestic inflation in the near term. However, he described the impact as “temporary” for now and stressed that the central bank will closely monitor if there are signs that the inflation becomes permanent or prolonged.
The Canadian economy is currently in a dilemma called stagflation. Governor Macklem explained that raising interest rates to fight inflation risks exacerbating the economic slowdown, while cutting rates to support growth could cause inflation to soar far beyond the 2% target.
In addition to the war, Canada's economy is also grappling with other external pressures, including trade tariffs from President Donald Trump's administration, weak business investment, and a weak labor market. Uncertainty over the future of the free trade agreement (USMCA) has also weighed on the country's growth prospects.
Following the announcement, the Canadian Dollar (Loonie) fell 0.20% against the US Dollar. Investors in money markets are now shifting their focus to the possibility of an interest rate hike as early as December if the global energy crisis in the Middle East shows no signs of abating.
