The Bank of Canada will maintain its 2% inflation target in the monetary policy framework review next year. Current economic conditions are challenging due to new U.S. tariffs and unpredictable U.S. policy, which have reduced economic efficiency and heightened uncertainty.
Supply constraints could lead to increased inflationary pressures in the future. The Bank of Canada uses scenarios to make monetary policy decisions that cater to various economic outcomes.
Commitment To The Inflation Target
Despite the complexities introduced by U.S. tariff policies, the commitment to a 2% inflation target persists. The outlook suggests a tendency towards heightened inflation levels.
The Bank of Canada is signaling it will not be swayed from its 2% inflation goal. Given that the latest CPI reading for July 2025 was a stubborn 2.9%, we see little chance of a rate cut in the near term. This suggests pricing out any significant easing in interest rate futures for the remainder of the year.
The uncertainty around U.S. trade policy creates a challenging environment, making monetary policy less predictable. These trade headwinds are inflationary but also harm growth, putting the Bank in a difficult position. We should therefore expect higher implied volatility in both Canadian rates and currency markets over the coming weeks.
Impact On The Canadian Dollar
This policy conflict is likely to weigh on the Canadian dollar. While a hawkish Bank would normally support the currency, persistent trade disputes tend to cap any significant rallies, a pattern we observed during the 2018-2019 trade disputes. Look for range-bound trading in the USDCAD pair, but with a greater risk of sharp moves on any new tariff announcements.
Given the Bank’s data-dependent “scenario” approach, option strategies that profit from price movement rather than direction make sense. Buying straddles or strangles on currency futures ahead of the next inflation print or U.S. trade announcements could be an effective way to position for the expected swings. The cost of these options has already risen about 10% this month, reflecting this growing uncertainty.
