Bank of Canada keeps rates unchanged for the seventh consecutive time: Tariff wars increase inflation risk, 63% of analysts bet on a shift to rate hikes in the first half of 2027

On September 2, the Bank of Canada kept its overnight rate unchanged at 2.25% for the seventh consecutive meeting, but the escalating US-Canada tariff war is increasing upside inflation risks, and the market has begun betting that the next move will be a rate hike.

The Bank of Canada stated in its statement that the evolution of the economy and inflation is "broadly in line" with the July forecast, but "the upside risk to inflation has increased, and new tariffs make the growth outlook more uncertain".

Governor Tiff Macklem stated that after a year of stagnation, Canada's economic growth has rebounded, "which puts us on a firmer footing as we face new challenges," but "the uncertainty regarding the sustainability of the rebound has increased with new US trade actions".

After the decision was announced, Canadian short-term government bonds were sold off, the two-year government bond yield rose as high as 3.048%, and the Canadian dollar strengthened to 1.3847 against the US dollar. According to a Bloomberg survey, 63% of analysts expect the central bank to raise rates in the first half of 2027, consistent with overnight swap market pricing.

Tariff war escalates across the board after talks broke down on August 21

US-Canada relations have significantly worsened since August 21, when weeks-long negotiations aimed at reducing tariffs and trade barriers broke down.

Wallstreetcn mentioned that trade talks between the US and Canada broke down on Friday, August 21. The US then imposed a 50% tariff on around 20 billion US dollars’ worth of Canadian goods starting August 22. Canadian Prime Minister Carney immediately stated that Canada would take equivalent countermeasures starting September 8.

According to Xinhua News Agency, on Tuesday the 25th, the Canadian government announced retaliatory tariffs on around 20 billion US dollars’ worth of US goods. According to CCTV News, the Canadian government stated that starting September 8, about 700 US products would be subject to counter-tariffs with rates of 15%, 25%, or 50%. At the same time, a 7.5 billion Canadian dollar aid package will be launched to support businesses and workers affected by the new US tariffs.

The Canadian economy strongly rebounded in the second quarter with an annualized growth rate of 3.3% after nearly a year of stagnation, driven by investment, exports, and household consumption, with a tightening labor market.

In the opening remarks of the press conference, Macklem emphasized that the rebound in growth put the central bank "on a firmer footing," but he also warned that uncertainty about the rebound’s sustainability is rising amid new US trade actions. If trade tensions escalate further, they will become major headwinds for sales, hiring, and investment.

Policy Dilemma: Cutting rates to save the economy or curbing inflation, not both

Tony Stillo of Oxford Economics noted that the effects of central bank rate adjustments will last for the next two years, and policymakers "do not want to cut rates and then hike them again, creating more uncertainty through their own policy moves," so they will be "very cautious."

This judgment highlights the essence of the current dilemma: the central bank cannot help the economy digest structural trade damage by cutting rates without risking increased price pressures.

In the Bloomberg survey, 63% of analysts expect the central bank to raise rates in the first half of 2027, in line with overnight swap market pricing—market pricing has shifted from easing expectations to preparing for tightening in a stagflation scenario.

After retaliatory tariffs take effect on September 8, the evolution of inflation data will become the key variable for determining the Bank of Canada's rate path.