NextFin News - The Bank of Canada is preparing to raise its quarterly inflation forecast significantly, as Governor Tiff Macklem said on Saturday that persistently high crude oil prices are now doing something unusual for a major central bank: lifting growth as well as prices. Speaking to journalists on a conference call from Bangkok, where he was attending meetings of the International Monetary Fund and World Bank Group, Macklem said the bank expects to publish a higher inflation projection at the end of the month, when it delivers its next rate decision and updated Monetary Policy Report on October 28.
The twist is structural. Unlike most other major economies, Canada is a net exporter of energy, which creates what Macklem called "differential effects" for the northern country: higher global oil prices swell the value of Canadian energy exports and support domestic activity even as they squeeze consumers and push headline inflation higher. "With the (Middle East) conflict ongoing, shipments still curtailed and refinery capacity damage, the risk that inflation broadens and becomes more persistent has gone up," Macklem said. The central question now is whether the bank will respond to that mix with a rate increase on October 28, or hold at its current 2.25% policy rate and wait for more evidence that energy costs are spreading into the rest of the economy.
The Situation: Oil Above $100, Inflation at 3%, and a Rate Decision in 11 Days
The numbers framing the decision are stark. West Texas Intermediate crude was trading around $101.77 a barrel on ICE in mid-October, up 3.95% in a day and roughly 78% higher than a year earlier. That rally has pushed Canada's headline consumer price inflation to 3.0% year-over-year in August, unchanged from July and below the post-conflict peak of 3.2% reached in May, but comfortably above the bank's 2% target midpoint. Gasoline prices alone were up 22.8% year-over-year in August, though that pace slowed from 25.7% in July. Macklem put the passthrough in practical terms: recent gasoline prices have been consistent with a crude oil price $40 higher than where it had been.
Core inflation, however, tells a calmer story. The Bank of Canada's preferred core measures — CPI-median and CPI-trim — averaged 2.0% in August, unchanged from July, and shelter inflation ticked up only to 1.5% year-over-year. That gap between a 3% headline and a 2% core is the entire battleground: the bank's own July report noted that inflation excluding gasoline, and its core measures, stayed close to 2% even as headline inflation rose, suggesting spillovers to other goods and services remained contained.
The timing matters. Canada's September CPI print is due October 19, just nine days before the rate decision, with economists forecasting a rise to 3.2%. If that print shows gasoline passthrough bleeding into services and core metrics firming above 2%, the hawks on the Governing Council will have the ammunition they need. If it does not, the case for waiting strengthens.
Market pricing reflects the uncertainty. As of Saturday, money markets were not pricing in any rate change at the October 28 meeting or at the bank's final decision of the year in December, but they were pricing in roughly 100 basis points of increases over the course of next year. In other words, investors expect the bank to hold now and tighten later — a bet that the oil shock will prove persistent enough to force action, but not soon enough to matter this year.
Why Higher Oil Helps Canada While It Hurts Everyone Else
The mechanism is the terms of trade. When oil rises, an energy-importing economy such as Japan or Germany faces a pure cost shock: households pay more at the pump, firms face higher input costs, and national income leaks abroad to pay for imports. Canada, as the world's fourth-largest oil exporter, experiences the mirror image. The higher global price raises the domestic-currency value of energy production, lifts corporate revenues and wages in the energy sector, and improves the trade balance. That is why Macklem can simultaneously warn about inflation and point to growth support from the same price move — and why the bank's July projection has activity in the oil and gas sector contributing to growth in the near term.
But the benefit is concentrated and the pain is broad. Energy-sector employment, investment, and provincial fiscal revenues in Alberta, Saskatchewan, and Newfoundland rise with the oil price. Meanwhile, every Canadian household and every non-energy business pays more for fuel, freight, and petrochemical inputs. The net macro effect depends on which channel dominates: the income gain for exporters or the real-income squeeze for consumers. The bank's July projection — GDP growth of 0.7% in 2026, rising to 1.8% in both 2027 and 2028 — essentially assumes the two roughly offset, with growth supported but not transformed. That is a modest expansion, not an oil-fueled boom.
There is also a currency channel that cuts both ways. Higher oil prices tend to lift the Canadian dollar: USD/CAD traded between roughly 1.40 and 1.42 in mid-October, and federal projections have the loonie averaging about 73.7 U.S. cents in 2026. A stronger currency dampens imported inflation, which helps the bank's target, but it also makes non-energy exports less competitive — a headwind for manufacturers in Ontario and Quebec that are already navigating elevated U.S. tariffs. Macklem has separately warned that if the tariffs remain in place, growth could be roughly halved in the fourth quarter. The oil rally is therefore not an unambiguous tailwind; it is a reallocation shock, shifting income and capacity between sectors rather than simply adding to aggregate demand.
Cyclical Shock or Structural Shift? The Forward Curve Says the Rally Is Mean-Reverting
The most important judgment for the Bank of Canada is whether this oil price level is cyclical — a mean-reverting supply shock — or structural, a durable regime shift that permanently lifts the price level. The evidence points strongly to cyclical, and that should restrain the bank from overreacting.
First, the forward curve is in backwardation and slopes down steeply. ICE prices for December 2026 delivery were around $99.10, falling to $93.31 by March 2027, $88.26 by June 2027, $80.43 by December 2027, and $73.00 by December 2028. Futures markets are telling the bank, in effect, that today's $100-plus price is a spike, not a new normal. Second, independent forecasts agree: independent commodity-price models put crude at $95.54 by the end of the current quarter, and Desjardins' official view is that oil prices will come down from current levels. Third, the trigger is a supply disruption — conflict in the Middle East halting a key source of global supply — not a permanent change in demand structure or extraction cost. Supply disruptions reverse; the historical pattern for oil is mean reversion once the physical shortage clears.
The structural element is real but narrower: Canada's status as a net energy exporter is durable, so the mix of growth and inflation will differ from peer economies for as long as the country remains a net seller of energy. That is a structural fact about Canada's economic structure, not about the oil price level. Confusing the two is the most common error in this debate. The correct reading: the price spike is cyclical and will fade; the asymmetric exposure to energy prices is structural and will persist.
That distinction has direct policy implications. If the shock is cyclical, raising rates to fight a headline inflation number that will fall on its own as oil retreats risks choking off the very growth the oil sector is supporting. The bank would be tightening into a self-limiting price move. The right response to a cyclical terms-of-trade shock is to look through the headline and focus on core inflation and inflation expectations — both of which remain anchored near target.
The Second-Order Effect: What the Market Has Not Fully Priced
The first-order story — oil up, inflation up, growth supported — is already in every headline. The second-order chain is where the real risk lies, and it runs through three channels the market is underweighting.
First, the divergence channel. The Federal Reserve and the European Central Bank are fighting inflation driven by energy imports; the Bank of Canada is watching inflation driven by energy exports. If the BoC hikes while peers hold or cut, the interest-rate differential widens, the loonie strengthens further, and the imported-disinflation effect accelerates — potentially pushing core inflation below target just as the oil shock fades. A hike today could therefore be self-defeating: it would fight a temporary headline number by importing additional disinflation through the exchange rate.
Second, the expectations channel. Macklem has already signaled the conditions for action, and the cost of an empty warning is real. "We don't want to raise our policy rate and restrain growth if inflationary pressures are contained," he said. "But nor do we want to be too slow to respond if inflationary pressures are becoming more persistent." He went further on the timing trade-off: "You're probably going to end up having to raise them more than if you moved earlier because things will have gotten more out of hand." That is a conditional threat, not a commitment — but it raises the cost of inaction. If the bank does not follow through after telegraphing that oil above $100 could trigger a hike, it risks unanchoring the very expectations it is trying to protect. Central banks are punished as much for empty warnings as for late action.
Third, the fiscal and distributional channel. Higher oil prices boost federal and provincial revenues through royalties and corporate taxes, improving the government's fiscal position at a time of elevated deficits. That fiscal cushion reduces the political pressure for stimulus and subtly changes the policy mix: monetary policy may be asked to do more of the inflation-fighting work precisely because fiscal policy is benefiting from the same price move. Investors should watch whether Ottawa signals spending restraint alongside any BoC tightening — the combination would be materially more contractionary than a rate move alone.
The Counter-Thesis: Hike Now, Before Passthrough Becomes Persistent
The strongest case against waiting is the bank's own. Macklem's warning about having to raise rates "more than if you moved earlier" if inflation becomes persistent is not rhetoric; it is a description of the classic second-round effect that central banks exist to prevent. The argument runs: headline energy inflation is already 22.8%; businesses facing higher freight and input costs are introducing fuel surcharges; workers facing higher living costs will demand wage catch-up; and once those dynamics embed in services inflation and wage settlements, bringing inflation back to 2% requires a much more painful tightening later. Better to move pre-emptively with a 25 basis-point hike in October, anchor expectations, and preserve credibility.
That case has real force, and it is backed by the bank's own framing. "The question we are going to be asking ourselves is, 'Is inflation likely to come back down towards our target on its own, or are we going to have to raise interest rates to influence the path, nudge the path for inflation back towards the target?'" Macklem said. The fact that the question is being asked publicly — after four consecutive holds at 2.25% — shows the bank is actively weighing action rather than dismissing it. Desjardins' Royce Mendes put the trigger crisply: if oil is "north of $100 a barrel at the time of the next rate decision" and the upcoming inflation report shows more passthrough from high energy prices, the bank "could raise rates in October." Mendes added that Desjardins' prediction is that oil prices will come down, and his official forecast continues to expect a rate hike only in the first quarter of 2027.
But the counter-thesis has a fatal dependency: it requires second-round effects that have not yet appeared. Core inflation is at 2.0%. Shelter inflation is 1.5%. The bank's own July assessment found spillovers "contained." A pre-emptive hike is only justified if the second-round effects are visible or imminent; otherwise the bank is tightening on a forecast of a forecast. And the forecast — oil retreating down the backwardated curve — argues for patience.
The falsifying signal is specific and observable. If the September CPI print on October 19 comes in at 3.2% year-over-year or higher, and the bank's preferred core measures (median and trim) rise above 2.2%, and gasoline passthrough shows up in services prices and business surveys of input costs, then the cyclical-read is wrong and the case for an October hike becomes compelling. Absent that combination, the evidence favors holding at 2.25% and using forward guidance to keep expectations anchored.
What Comes Next: Scenarios for October 28
The base case is a hold at 2.25% on October 28, accompanied by an upgraded inflation projection for 2026 and slightly firmer forward guidance warning that a hike remains on the table if oil stays elevated and passthrough accelerates. TD Economics expects the bank to remain on hold for the rest of 2026, with the first rate increase arriving only in the first quarter of 2027. That path assumes oil drifts back toward the low $90s as the supply disruption eases and core inflation stays near 2%.
The upside case for rates — a 25 basis-point hike in October — requires three conditions to align: oil above $100 at the decision date, the September CPI at or above 3.2%, and evidence of broadening passthrough into services and wages. In that scenario, expect the bank to signal that further consecutive increases are possible, and the market would reprice the entire 2027 path higher. Bond yields would rise, the loonie would strengthen, and rate-sensitive sectors — housing, autos, utilities — would underperform.
The downside case is that oil collapses faster than the forward curve implies — a negotiated resolution to the Middle East conflict or a demand shock from slowing global growth — pulling headline inflation back toward 2.5% and leaving the bank cutting rates in early 2027 rather than hiking. In that world, today's hawkish repricing would prove to have been premature, and the bank would face the same credibility question in reverse.
Across all three horizons, the asymmetry favors patience in the short term, vigilance in the medium term, and structural differentiation in the long term. Short term: the cyclical oil shock is fading on its own, and a hold is the lower-risk call. Medium term: the October 19 CPI and the October 28 decision are the two dates that matter, and the core-versus-headline split is the metric to watch. Long term: Canada's net-energy-exporter status means its inflation-and-growth mix will keep diverging from peer economies whenever energy prices move — a structural fact that investors in Canadian assets must price permanently, not temporarily.
Our beacon is our 2% inflation target, and we are committed to keeping inflation close to target over time. We are prepared to adjust monetary policy as needed.
Macklem said that in the context of explaining what the bank can and cannot control. The line captures the bind: the bank cannot control the oil price, and it should not try to. What it can control is whether a temporary energy shock becomes a persistent inflation problem. On the evidence so far — core inflation at target, a backwardated oil curve, and contained spillovers — the answer is that it has not become persistent. The burden of proof now lies with the hawks, and that proof is due on October 19.
The takeaway: higher oil prices are a cyclical windfall for Canadian growth and a cyclical headache for Canadian inflation — and the Bank of Canada should not raise rates to fight a price spike that the futures curve says will fade on its own. Move only if the October 19 CPI shows the headache spreading beyond energy; otherwise, hold, watch, and let the terms-of-trade gain do its work.
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