The Bank of Canada has room to cut interest rates this week, economists say, even as consumer prices edged higher in August on the back of stubborn gasoline prices.

“Inflation remained largely unthreatening in August, making the expected Bank of Canada interest rate cut tomorrow a relatively easy decision,” CIBC senior economist Andrew Grantham said Tuesday in a note to clients.

While the central bank’s closely watched core inflation metrics are still hovering near 3% annually, “the short-term trends were cooler,” supporting CIBC’s call for a quarter-point cut this week and another in October, which would bring the Bank of Canada’s policy rate down to 2.25%, he said.

TD Bank senior economist Andrew Hencic, concurred, saying the latest inflation figures reinforce the case for easing. The end of Ottawa’s retaliatory tariffs on U.S. goods, combined with evidence the economy has stalled and the labour market is softening, “will relieve pressure on inflation enough to ease any lingering inflationary concerns at the central bank.”

“We maintain the view that the BoC will have room to deliver two cuts this year to support growth and keep inflation in the target range,” Hencic said.

The central bank last cut rates in March — to 2.75% from 3% — part of a broader easing cycle to address economic headwinds including slowing output and rising unemployment. However policy makers have remained on the sidelines since then as they assess the impact of earlier cuts and tariffs imposed by the U.S. government, which risk adding upward pressure on inflation.

Sticky prices

Markets are pricing in more than 90% probability that the BoC will cut its policy rate by 25 basis points tomorrow.

Canada’s Consumer Price Index rose 1.9% in August from a year earlier, up from 1.7% in July, the federal statistics agency reported Tuesday, blaming “stubbornness at the gas pumps” for the increase. The agency noted the end of the federal consumer carbon levy in the spring has helped deflate gas prices in recent months.

Excluding gasoline, prices rose 2.4% in August, down slightly from the 2.5% pace recorded over the previous three months.

RBC economist Abbey Xu struck a more cautious tone, saying the BoC faces a “fine balance” in its decision on Wednesday.

“Unemployment is rising, and Q2 GDP contracted as trade flows weakened despite robust domestic demand. That said, early signs of recovery are emerging in Q3, with exports and manufacturing and wholesale sale volumes posting gains, suggesting the Q2 slowdown could be temporary,” Xu wrote in a note.

“The BoC will also have to consider upside inflation risks from sticky core inflation, resilient consumer spending, and planned fiscal stimulus that is likely more effective at addressing the targeted economic impact of trade-related disruptions than interest rate cuts. Today’s inflation report does little to sway that assessment, and we continue to think the Bank of Canada’s decision tomorrow will be a close call between a 25 basis point cut to the overnight rate and a hold.”

Meanwhile, StatsCan said price trends across consumer categories were mixed. Grocery prices rose 3.5% year over year in August, up from July’s 3.4%. Meat prices surged 7.2%%, driven by a 12.7% jump in fresh and frozen beef. Fresh fruit prices fell 1.1%, reversing a 3.9% gain in July as grapes and cherries became cheaper.

Shelter costs

The agency said rising rents and mortgage interest costs remain among the biggest ongoing contributors to annual inflation. Prices for cellular services also rose on a monthly basis in August, as “fewer back-to-school deals for cellphone plans” pushed costs higher.

Weaker Canadian demand for visiting the United States helped push prices for travel tours down 9.3 per cent compared with a year ago, StatCan said, offsetting some of the upward pressure on overall inflation.

For BMO’s Chief Economist and Managing Director Economics Doug Porter, the report “was mostly a low-drama affair” that won’t cause the Bank of Canada “much stress.” This means it will be on track to cut the interest rate tomorrow, he wrote.

“The milder underlying short-term trends in core, alongside the recent weakening in employment, set the table for further rate relief down the line. However, we suspect the Bank will continue to take it one step at a time, restrained by the 3% year over year trends in some core measures, as well as the likelihood that headline inflation will pop, at least temporarily, in next month's report.”