The Bank of Canada (BoC) raised its key overnight rate to 5.00%, the highest level since 2001, due to concerns about excessive consumer spending hindering efforts to reach the 2% inflation target. This 25 basis point increase was the second in two months and was widely anticipated by analysts and markets. In June, the BoC raised the overnight rate after a five-month pause, stating that monetary policy was not restrictive enough.

While the BoC removed the statement about rates not being sufficiently restrictive, it revised its growth forecast for this year upward and extended the timeline for achieving the inflation target to mid-2025, adding six months. The BoC expressed concerns about core inflation measures running in the 3.5%-4% range for several months, along with persistent excess demand, which could lead to CPI inflation significantly exceeding the 2% target.

Following the rate hike, Canadian money markets increased their expectations for another increase, projecting rates at 5.14% by December. The Canadian dollar strengthened against the US dollar, rising 0.6% on the day to 1.3157.

Despite nine previous rate hikes totaling 450 basis points since March of the previous year, the economy regained momentum in May, likely growing 0.4% compared to a stall in April. The BoC raised its forecast for second-quarter growth to 1.5% and expects growth of 1.5% in the third quarter as well. The overall real gross domestic product (GDP) growth for 2023 is forecasted at 1.8%, an improvement from the April forecast of 1.4%.

The BoC stated in its report that the rebalancing of supply and demand is now anticipated to occur in early 2024. Although headline inflation slowed to 3.4% in May, less than half of last year's peak, the BoC's core measures' three-month annualized rates have not decreased.

Persistent demand, higher-than-expected housing costs, and a slower decline in goods prices (excluding food and energy) contribute to inflationary pressures, according to the BoC. The bank expects inflation to reach 2% by mid-2025 but acknowledges the uncertainty surrounding the timing due to the gradual movement of inflation toward the target.

The BoC's overnight target rate was last at 5.00% in March and April of 2001. Out of 24 economists surveyed by Reuters, 20 anticipated a quarter-point rate hike. Money markets had already priced in over a 70% chance of a rate increase before the official announcement.