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Even amid rising worries over a trade showdown with the United States, two key indicators released Friday lifted expectations of an interest-rate hike by the Bank of Canada next month.

Business confidence hit its second-highest level on record in the first quarter, according to the Bank of Canada’s business outlook survey. Facing capacity pressures, more companies expect to hire, invest and sell more in the coming year, the central bank said.

Meanwhile, the economy expanded for a third consecutive month in April, as higher factory output unexpectedly pushed GDP 0.1 per cent higher, Statistics Canada reported.

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Those signs of economic strength have economists and investors increasingly confidant the Bank of Canada will announce another interest rate hike at its next rate-setting meeting on July 11.

The odds of a quarter-percentage-point rate increase next month have shot up to more than 85 per cent from roughly 50-50 earlier this week, according to Bloomberg’s monetary policy tracker.

But analysts are a lot less certain about what the central bank will do after that.

Related: Canadian economic growth beats expectations, boosting prospects of rate hike

The expectation of a July rate hike helped pushed the Canadian dollar more than half a cent higher Friday to US76 cents from 75.4 cents.

The prospect of higher rates comes amid an escalating cross-border tariff war. Ottawa struck back at U.S. steel and aluminum tariffs on Friday, unveiling retaliatory tariffs on C$16.6-billion worth of U.S. goods, along with a $2-billion aid package for affected industries and workers. The list of U.S. imports hit with the tariffs includes steel and aluminum plus whisky, toilet paper, washing machines, motorboats and maple syrup.

“The economy was in pretty good shape heading into the tariff strife,” Bank of Montreal chief economist Douglas Porter said in a research note. “[But] a further escalation could drastically change policy dynamics.”

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The U.S. is also threatening to impose tariffs on imported cars and parts – a move that would inflict significant pain across the manufacturing heartland of Ontario.

Bank of Canada Governor Stephen Poloz may be worried about “falling further behind intensifying capacity constraints” if he doesn’t stay on the path of higher rates, Scotiabank economist Derek Holt said.

Speaking to reporters this week, Mr. Poloz said conditions are evolving largely as the bank expected in its April forecast -- namely that the economy is running near full tilt and inflation is roughly tracking the central bank’s 2-per-cent target.

The Bank of Canada has raised its key rate three times since last June – to 1.25 per cent from 0.5 per cent. That’s still well below the so-called neutral level, where rates are neither cooling nor heating up the economy.

The central bank composite indicator of business optimism posted its second highest reading in more than 17 years of tracking, based on interviews with 100 company executives between May 3 and June 5. The highest level ever was in mid-2011.

There is “continued business optimism, particularly outside the energy-producing regions,” and companies are experiencing both price and capacity pressures, the bank said. Companies’ expectations for sales, investment and hiring all remain strong.

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The survey results were mainly collected before the U.S. imposed tariffs on steel and aluminum in early June and U.S. president Donald Trump’s amped-up his tirade against Canadian trade practices.

Among the highlights:

  • Investment intentions weakened for a third consecutive quarter, but remain “buoyant, driven by sustained demand and intensifying capacity pressures.”
  • 39 per cent of companies plan to invest more in machinery and equipment in the next 12 months, versus 22 per cent who expect to spend less. Another 39 per cent expect no change.
  • 62 per cent of respondents reported better sales prospects compared with a year ago. Fifty-one per cent experienced greater sales growth in the past year.
  • 56 per cent of companies expect to add jobs in the next year, versus just 5 per cent who expect to shrink their workforce. Thirty-nine per cent expect no change.
  • The percentage of companies facing labour shortages reached the highest level in a decade.
  • 57 per cent of companies said they are experiencing “some” or “significant difficulty” meeting demand.
  •  The percentage of companies expecting to face higher-cost inputs is up sharply.


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