Bank of Canada holds interest rate at 2.25% amid 'acute' uncertainty

The Bank of Canada held its key overnight interest rate at 2.25 per cent Wednesday, as largely expected by economists, with conflict in the Middle East and trade tensions driving economic uncertainty.

The decision to hold pat for now — the third pause in a row — was expected despite fears of rising inflation, driven by soaring oil prices after the United States and Israel launched attacks on Iran.

Economists say it’s not clear yet whether the energy shock will prove to be short-lived, which could be absorbed by the economy, or whether it will persist and spread to other sectors.

The Bank of Canada said that in addition to energy supply disruptions, transportation bottlenecks stemming from the effective closure of the Strait of Hormuz could impact the global supply of other commodities.

“Uncertainty is acute,” Tiff Macklem, governor of the Bank of Canada, said while announcing the rate hold.

He said it is too early to assess the impact of the war on growth in Canada, but the economic outlook appears weaker than just a few months ago due to factors such as a soft job market.

“We continue to expect the Canadian economy to grow modestly as it adjusts to U.S. tariffs and trade policy uncertainty, but recent data suggests that near-term economic growth will be weaker than anticipated in January,” he said. “We’re in week three. This is an economic shock. How big it is is going to depend a lot on how long it lasts, whether it widens, how disruptive it is.”

Macklem said food inflation remains a problem despite slowing in February, but that’s not the only inflation concern for the central bank.

“The recent sharp increase in global energy prices is causing higher prices at the pump, as we’ve all seen, and this will push inflation up in coming months,” he said.

Macklem said higher oil prices will leave consumers with less income for other spending, but will also boost revenues from energy exports.

The Bank of Canada must also weigh several possible outcomes from renegotiation of the Canada-U.S.-Mexico Agreement (CUSMA) as it makes rate decisions, with talks just getting underway.

Despite a weak jobs report last week and sluggish gross domestic product (GDP) growth over the past few quarters, bond markets have been predicting the Bank of Canada will raise rates later this year, but several economists have questioned that view.

Macklem said the Bank of Canada is monitoring economic and geopolitical developments and is prepared to change course if needed.

“With inflation close to target and the economy in excess supply, the risk that higher energy prices quickly spread to the prices of other goods and services looks contained,” he said.

“But the longer this conflict lasts and the wider it gets, the bigger the risks. (The central bank’s) governing council will look through the war’s immediate impact on inflation, but if energy prices stay high, we will not let their effects broaden and become persistent inflation.”

Macklem said economic weakness combined with rising inflation would present a dilemma for central banks.

“Raising interest rates to slow inflation could further weaken the economy,” he said. “Easing interest rates to support growth risks pushing inflation well above target.”

• Email: bshecter@postmedia.com