By Douglas Porter

March 13, 2026

Amid the big swings in oil prices this week, and the related moves in other markets, the key theme was a grinding acceptance that the conflict with Iran will not end soon. And even if the President is correct that the U.S. is “very complete” and is “ahead of schedule”, it’s quite evident that Iran will have a big say through its control of the Strait of Hormuz.

And its tough stance there suggests the very real possibility that oil prices will stay elevated and volatile for some time yet. While crude prices of above $95/barrel have risen by over 40% from pre-war levels, the increase has actually been somewhat contained by the record release of oil reserves by the G7.

Last week, we considered four different scenarios for oil prices, and we have since tweaked those estimates and their weightings. Overall, the initial call still holds up well, although we have bumped up the average WTI price a bit further for 2026 to $75 (including an average of over $90 for this month and next).

As a result, we have nudged up our calls on U.S. and Canadian inflation for this year a bit further yet (to 3.0% average inflation stateside and just under that for Canada), and shaved GDP growth estimates for both for this year.

Naturally, we stand ready to adjust those calls as needed in coming weeks as the oil outlook comes into better focus.

Looking at the net impact from the conflict on markets since the end of February (i.e., the two-week change), what really stands out is the upswing in bond yields right across the curve. Treasury yields have jumped 35 bps or more from 2s out to 10s, while the upswing in Canada has been even larger.

While stocks have wobbled, the S&P 500 is down just over 3% in the two weeks, and the TSX is off about 5%. The rebound in the U.S. dollar gathered steam this week, with the euro now down almost 3% since the conflict began, while the yen has weakened 2%, and even the Canadian dollar has nudged down over 0.5%.

While this week brought little guidance on when the conflict may end, it provided some clarity on where the economy stood ahead of the war.

On the inflation front, there was a morsel of good news from the U.S. CPI, which provided no drama in its February reading. Headline inflation was stable as mostly expected at 2.4%, while core stayed steady at 2.5%. Unfortunately, the companion report for the PCE deflator for January suggested that the Fed’s go-to measure was less calm, with core PCE up 3.1% y/y.

As noted in this space a few weeks back, it’s rare enough to have the PCE deflator running hotter than the CPI, let alone a 0.6 ppt gap (only a handful of months have been there in the past 40 years). Suffice it to say that the unusually large deviation between the two major measures of inflation—especially at such a crucial juncture on the inflation landscape—complicates the outlook for the Fed.

On the U.S. growth front, there were some mild pleasant upside surprises from February existing home sales and January housing starts, but the back-up in long-term yields casts serious doubt on the near-term housing outlook.

Exports also showed some pop at the start of the year, dragging the trade deficit back down again, while initial claims are generally low and stable—reinforcing the view that the recent big slowdown in job growth is as much a supply story as weak demand.

Even so, we have chipped away further at our GDP call for this year, and the big downward revision to Q4 growth of just 0.7% (from 1.4%) also weighed. As a result, we are now looking at 2.2% GDP growth for all of 2026, down 3 ticks from the pre-war call.

Even with the softer growth backdrop, the upside risks to inflation have carved into expectations of Fed rate cuts in coming months.

Before the conflict, markets were leaning to our view of three cuts, but are now clinging to one cut for all of 2026. In light of the tougher inflation backdrop, we too have removed one cut from this year, and now see the Fed waiting until September for the next move (with a second trim in December).

We then expect rates to hold steady at 3.00%-to-3.25% through 2027… at least for now. Next week’s FOMC will bring the full slate of refreshed economic projections and the dot plot, a welcome clear opinion amid the fog of war.

Canada was pummelled with tough economic indicators this week, amplifying the point of a stumbling start in 2026. A very weak jobs report for February topped the list, with a whopping 83,900 decline and a two-tick rise in unemployment rate to 6.7%. Even in percentage terms, the 0.4% jobs drop is among the weakest ever (aside from the pandemic), ranking in the same league as the 2009 downturn.

Perhaps exaggerated by a tough winter, as well as the ongoing steep slowdown in underlying population growth (the labour force has dropped heavily for two months running), the key point is that employment is now up only 0.2% from a year ago. True, the unemployment rate has barely budged from last February, and is below last summer’s peak above 7%, but the absence of job growth will weigh on spending.

Loaded on top, we also saw a 4.7% drop in exports and a 3% drop in manufacturing sales in January, albeit both were heavily undercut by down-time at a big auto plant. As a result, we have clipped our Canadian GDP growth call this year by 3 ticks to 1%.

Similar to the U.S., we are also lifting our inflation outlook moderately to an average of 2.9% this year, with a run above 3% likely in coming months (although next Monday’s CPI will look quite tame for February below 2%).

Like the Fed, the Bank of Canada is universally expected to keep rates unchanged at next week’s decision. But, the market’s symmetrical view on the two central banks ends there.

In contrast to the rate cut(s) expected later this year by the Fed, the market is still leaning to the very real possibility of a rate hike by the Bank of Canada in the second half of the year. True, those expectations suffered a heavy blow from the weak jobs report, but were not knocked out fully.

To put it mildly, we believe that a rate hike this year would be an extraordinarily bad policy decision. In a nutshell, here are the reasons against the Bank even considering a hike:

Employment has ground to a halt, and is now up just 0.2% y/y (and it’s even weaker in the payroll survey; -0.2% y/y in December).

Even prior to its Q1 stumble, GDP had risen just 0.7% in the past four quarters, including two—count ’em two—separate negative quarters.

Most measures of core inflation are cooling notably and were headed back towards the Bank’s 2% target. Yes, headline inflation will be driven above 3% by the spike in oil, but the Bank should look through that.

The back-up in bond yields—5-year GoCs have jumped 40 bps in the past two weeks alone to above 3%—will dampen an already soggy housing market and is acting as a tightening move all by itself.

Looming over everything is the ongoing uncertainty of the CUSMA, which is weighing heavily on capital spending plans and business confidence.

Policy Contributing Writer Douglas Porter is Chief Economist for BMO.