Subdued core inflation gives BoC room to wait on interest rates
‘The risk of second-round effects, such as wage-driven inflation stemming from higher energy prices, remains limited,’ says National Bank of Canada Deputy Chief Economist Matthieu Arseneau. / LINKEDIN PHOTO
Although food and energy prices have increased, the economy seems to be improving, say National Bank of Canada economists.
“The economy is showing some signs of improvement after two difficult quarters, with recoveries in GDP growth, the labour market, and the housing market. However, subdued core inflation suggests that the economy continues to operate with some excess supply,” Deputy Chief Economist Matthieu Arseneau and Senior Economist Alexandra Ducharme wrote in a note.
“We are not overly concerned about the inflation situation in Canada. There is reason to believe that rising energy prices and persistently high food inflation are forcing households to make difficult spending choices. Excluding food and energy, prices still remain very subdued, rising at a rate of only 1.6% (1.5% in April). True, on a monthly basis, inflation excluding energy and food rose at its fastest pace in five months (+0.26%), but this jump came after prices had essentially stagnated in the previous two months.”
The inflation rate rose to 3.2% in May, up from 2.8% in April, according to new data released by Statistics Canada on June 22. Gasoline prices jumped 33.2% compared with a year ago as ongoing supply concerns in the Middle East pushed fuel costs higher.
Canadians also paid more for travel, fresh fruit, and vegetables in May. Airfares increased, and grocery prices continued to rise, with higher costs for items such as berries, grapes, tomatoes, broccoli, and lettuce contributing to overall food inflation.
At the same time, housing-related inflation eased slightly. Rent increases slowed, and mortgage interest costs continued to grow at a slower pace than in previous months.
The recent rise in inflation is not likely to become a bigger, long-lasting problem, so the Bank of Canada can afford to wait before changing interest rates, Arseneau and Ducharme wrote.
“Since inflation in Canada was already well under control before the recent oil shock, we have argued that the Bank of Canada should look through the rise in energy prices and leave interest rates unchanged for now. This morning's inflation report does not alter that view. Core inflation remains generally contained," they wrote. "In this context, we believe that the risk of second-round effects, such as wage-driven inflation stemming from higher energy prices, remains limited, especially since some relief is already expected as early as June with the de-escalation in the Middle East. ... Overall, current conditions continue to support a patient approach from the Bank of Canada.”
BMO Chief Economist Doug Porter said however that the latest inflation numbers were a "mild disappointment."
In a note, he said that while gas prices “are on track for about a 10% drop in June, which should clip the headline result next month” and that core inflation “remains essentially right on target,” the 3.2% increase “stings somewhat.”
“The persistence of food inflation is a significant thorn, and we have to rate this one as a mild disappointment overall—it's never good news to see the overall inflation rate track above 3%, even if it is for one month only.”
