The Bank of Canada left its policy rate at 2.25% on Wednesday as expected, but the overall tone of the accompanying statement leaned somewhat dovish relative to market expectations, said ING.
The BoC acknowledged the impact higher energy prices were having on headline inflation and inflation expectations, and Governor Tiff Macklem said that a hike might be needed if oil prices were to remain elevated for a long period, noted the bank.
However, the BoC also emphasized core inflation has behaved well and the proportion of components of the consumer price index that are above target has declined.
Meanwhile, the jobs market is still described as soft with weak hiring and job losses seen in sectors exposed to U.S. tariffs. Growth projections also remain modest, with 1.2% gross domestic product growth predicted for this year, 1.6% in 2027 and 1.7% in 2028. Those 2027 and 2028 forecasts are a tenth of a percentage point below the consensus growth estimates.
While higher energy prices are a boon for Canada's economy, given it's a major net producer of oil and natural gas, the ongoing uncertainty about trade policy continues to hold back sentiment. The coming evaluations of the CUSMA trade deal between Canada, the United States and Mexico and the potential for the U.S. to put more of a squeeze on trade partners, prompted Governor Macklem to warn that if there are significant rule changes that harm Canada, then a rate cut may be required.
As such, the BoC seems to be hedging its bets a little, stated ING. For now, the BoC is prepared to "look through the war's immediate impact on inflation." Assuming oil prices come down, and U.S. tariffs remain unchanged, "a policy rate close to current settings looks appropriate."
The upside risk stems from a prolonged period of elevated inflation costs that starts to feed through into broader price increases, while the downside risk is increased trade restrictions with the U.S.
In terms of ING's view, its base case is that the Middle East situation will gradually ease. ING sees a slow resumption of tanker flows through the Strait of Hormuz over the next couple of months, and energy prices to start to come down.
The bank also predicts the potential for a tough period of talks over the CUSMA review deal that will leave a cloud of uncertainty over the economy and weigh on the jobs market.
In this situation, ING continues to favor stable policy rates through to the end of the year.