September 23, 2022
Market Trends
RYPM
Canada’s headline inflation rate cooled for the second month
in a row in August, running at an annualized pace of 7.0 per cent that was
lower than economists’ expectations of 7.3 per cent and down from July’s reading of 7.6 per cent.
The deceleration in the consumer price index was the largest
since early in the COVID-19 pandemic, Statistics Canada said Tuesday.
All three core measures of inflation, which the Bank of
Canada watches closely, eased slightly, but are still a long way from the
central bank’s two per cent target.
In a speech later that day, Bank of Canada deputy governor
Paul Beaudry acknowledged that while trends were heading in the right
direction, the pace of price increases was still too high. He added that since
the central bank began inflation targeting in 1991, the Bank has largely been
successful in keeping inflation around the two per cent target.
“Today, that record is being seriously tested as we emerge
from the first global pandemic in a century and face the effects of Russia’s
unprovoked invasion of Ukraine,” Beaudry said in a Sept. 20 speech before the University of Waterloo
Faculty of Arts, adding that both factors have driven up inflation.
“Monetary policy is actively tightening to cool the economy
and contain these pressures,” he further noted.
The slowdown seen Tuesday largely stemmed from lower
gasoline prices, which fell 9.6 per cent from the month before, the largest
monthly decline since April 2020. Gasoline prices fell the furthest in
Saskatchewan and Alberta. The price of gasoline, however, remains 22.1 per cent
higher than last year.
Excluding gasoline, inflation rose 6.3 per cent
year-over-year, down from a 6.6 per cent increase in July.
Travel and accommodation costs also rose at a slower pace.
The price of groceries, however, surged 10.8 per cent from
the year before, the fastest pace since 1981, driven higher by extreme weather,
higher input costs and the disruption of supply chains caused by Russia’s
invasion of Ukraine.
Beaudry raised two concerns informing Canadians’
expectations of inflation: the ‘adaptive’ expectation where Canadians see high
inflation and expect it to rise further, regardless of what the Bank may
communicate; and what he called the ‘rational’ response where Canadians assume
the effects of monetary policy will bring inflation back to target in the
long-run. The truth, Beaudry said, lies somewhere in between these theories.
“At some level, you don’t need an economist to tell you
this: No one naïvely assumes that just because inflation is high today, it will
stay there,” Beaudry said. “Instead, people try their best to understand the
economic environment and form expectations based on that understanding.”
“However, that environment is complicated, so the mental
gymnastics associated with fully rational expectations feels understandably
foreign,” Beaudry added.
While describing these theories, Beaudry brought up the
issue of credibility, which Bank of Canada governor Tiff Macklem acknowledged was being tested as the Bank aims to
bring inflation back to balance in July.
In closing, Beaudry re-iterated that the Bank would do what
was necessary to bring inflation to two per cent and maintain Canadians’
confidence in the central bank.
“Even after today’s deceleration, the annual rate of
inflation remains well above the Bank of Canada’s target and as such further interest
rate hikes are still in the cards,” Andrew Grantham, senior economist at CIBC
Capital Markets, wrote in a note after the data.
“However, a clearer gap appears to be opening up between
Canadian and U.S. inflation trends, which should bring a lower peak from the
Bank of Canada than the Federal Reserve.”
Leading up to the inflation data that came out Tuesday,
economists had been opining that price pressures in Canada could fall faster
than in the U.S. CIBC’s chief economist Avery Shenfeld said the difference in
the treatment of shelter costs in Canadian inflation figures could cause cost
pressures excluding food and energy to tumble at a quicker pace.
While the second monthly dip in inflation readings may have
policymakers resting somewhat easier, Royce Mendes, managing director and head
of macro strategy at Desjardins, wondered in his note following the data
whether the figures were “too good to be true.”
“We’ve seen head fakes in the numbers before, with recent
data on U.S. inflation a prime example,” Mendes said in a Sept. 20 note.
“However, it could be true that easing supply chain pressures, falling
commodity prices and a highly interestrate sensitive economy are all conspiring
to see price growth cool in Canada ahead of other jurisdictions.”
Mendes added that the numbers Tuesday reinforce the
Desjardins economics team’s stance that the Bank of Canada holds one more
50-basis point hike up its sleeve.
Overall, economists expect that the central bank will err on
the side of caution and raise rates again on Oct. 26.
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