Bank of Canada: Rates outlook and inflation risks – TD Securities

TD Securities analysts Robert Both and Emma Lawrence note that the Bank of Canada adopted a more cautious stance in their recent policy decision, highlighting potential upside risks to inflation. Despite core inflation remaining relatively low, the Bank expressed less concern over trade uncertainty. They project the Overnight Rate will remain at 2.25% through 2026, with a return to a neutral level of 2.75% in 2027.

This will be achieved through two 25 basis point hikes in January and March 2027. Oil price volatility, following a surge above $100 per barrel due to the US-Iran conflict, has introduced a notable shock to inflation expectations. The Bank of Canada appears to be patient, waiting for clearer signals on geopolitical developments and their impact on domestic CPI.

With expectations well-anchored, stable inflation breadth, and subdued core inflation momentum, the Bank is in a strong position to allow headline CPI to run higher while gradually absorbing excess supply. Trade tensions have intensified with the August 22nd introduction of Section 338 tariffs, but they are unlikely to prevent BoC rate hikes in the first quarter if the situation remains stable.