The Bank of Canada left its key overnight interest rate unchanged at 2.25% on Wednesday, in line with market expectations, while signaling that the Canadian economy is likely to regain momentum during the second half of the year as inflationary pressures ease.

The decision marked the sixth consecutive meeting in which the central bank kept interest rates unchanged, following an aggressive easing cycle last year that brought the policy rate down to its current level in October.

"The Canadian economy is showing signs of improvement, with growth gradually accelerating, while inflationary pressures are expected to ease following the recent increase," the bank said in its statement.

In its latest economic projections, the Bank of Canada slightly raised its growth forecasts for 2027 and 2028 but lowered its estimate for 2026 growth to 0.7%, compared with 1.2% in its April outlook, reflecting a weaker-than-expected start to the year.

Meanwhile, the bank raised its 2026 inflation forecast to 2.5% from 2.3%, while stressing that inflation is expected to remain close to the midpoint of its 1%-3% target range over the next two years.

Economic activity expected to improve despite persistent risks

The bank expects the Canadian economy to expand at an annualized rate of 2.5% in the second quarter after stagnating during the first three months of the year due to disruptions caused by tensions in the Middle East and uncertainty surrounding US trade policy.

"The data we have received since April have strengthened our confidence that the economy is successfully moving through this period of global disruption," Bank of Canada Governor Tiff Macklem said in prepared remarks for his press conference.

All 36 economists surveyed by Reuters had expected the central bank to leave interest rates unchanged, while most anticipated no change in monetary policy until at least July next year.

Money market pricing also indicates that investors expect interest rates to remain unchanged through the end of this year.

In its quarterly Monetary Policy Report, the bank said developments in Canada-US trade relations and the war in the Middle East remain the two largest sources of risk to its inflation outlook.

Macklem said the bank looks through the direct impact of higher oil prices on inflation but warned that if prices remain elevated for a prolonged period, inflationary pressures could spread to other goods and services.

"As we have emphasized before, we will not allow higher oil prices to turn into persistent inflation," he said.

Following the decision, the Canadian dollar pared its earlier gains and weakened 0.05% to C$1.4062 per US dollar, equivalent to 71.11 US cents. The yield on Canada's two-year government bond fell 3 basis points to 2.627%.