The Bank of Canada left its benchmark interest rate unchanged at 2.75 per cent, as evidence of hotter inflation outweighed worries over the trade war. Governor Tiff Macklem signaled the central bank could opt to cut rates later this year if price pressures subside. 

Carefully, carefully: Macklem said there was a “clear consensus” among himself and his deputies on the Governing Council to leave the benchmark rate unchanged and gather more information amid “unusual uncertainty.” 

However, the governor acknowledged unease about where the economy is headed, hinting that cuts could be coming. “We also discussed the path ahead for the policy interest rate,” he said in a statement. “Here, there was more diversity of views. On balance, members thought there could be a need for a reduction in the policy rate if the economy weakens in the face of continued U.S. tariffs and uncertainty, and cost pressures on inflation are contained.” 

Burning embers: As the Bank of Canada announced its decision to leave borrowing costs unchanged, the U.S. government said it was doubling steel and aluminum tariffs, a fresh blow to Canada’s export-reliant economy. 

But even though Canada’s short-term economic prospects are bleak, inflation has been heating up, jamming the central bank’s ability to offset slower growth. Macklem said the drop in headline inflation in April was almost entirely the result of the scrapping of the consumer carbon tax; excluding taxes, inflation was stronger than the Bank of Canada was expecting. That could be because tariffs are already pushing up the prices for food and other goods. 

Soft, not weak: The other complicating factor for the central bank is that while it’s easy to imagine the harm U.S. President Donald Trump’s economic warfare could cause, the hard data don’t yet argue for a rate cut. 

The central bank said in its policy statement that gross domestic product grew at a “slightly stronger” rate than it had expected, as demand for exports surged ahead of tariffs. The central bank characterized spending on machinery and equipment as “strong,” and observed that household consumption was holding up despite all the uncertainty. “The Canadian economy is softer, but not sharply weaker,” Macklem said. 

One step at a time: Macklem noted that the central bank is “being less forward-looking than usual.” Typically, policymakers must anticipate where the economy is headed because interest-rate changes ripple through the economy slowly. That’s all but impossible right now because U.S. trade policy is so volatile and there isn’t enough information to bet on how companies and households will respond. 

Rate cuts probably are coming. Macklem said second-quarter growth will be “much weaker” and shared that “businesses are generally telling us that they plan to scale back hiring.” But rate cuts depend on inflation, which trumps all for the central bank. Macklem also said that “many businesses say they intend to pass on tariff costs.” That could lead to higher inflation expectations, creating a self-fulfilling prophecy. The one thing that will break a cycle of upward prices is higher interest rates.