Canada’s annual inflation rate moved back above the Bank of Canada’s target range in July, bolstering the central bank’s warnings about stubborn price pressures and raising the odds of another interest-rate hike in September.
The Consumer Price Index increased 3.3 per cent in July from a year earlier, up from 2.8 per cent in June, Statistics Canada said Tuesday. Bay Street analysts were expecting it to climb to 3 per cent.
Inflation has retreated over the past year, largely thanks to a decline in gasoline prices, which had previously surged as a result of Russia’s invasion of Ukraine. By July, however, year-over-year oil price comparisons were no longer pulling the annual CPI rate lower, leaving food, shelter and mortgage-service costs to drive inflation higher.
Several measures of core inflation, which filter out volatile prices to capture underlying inflationary pressures, eased in July. But the central bank’s two preferred core inflation gauges were still running at an average annual rate of 3.65 per cent, well above the bank’s 2-per-cent target.
“There’s no sense sugarcoating this one – it is not a good report for the Bank of Canada,” Douglas Porter, chief economist at Bank of Montreal, wrote in a note to clients.
“We still believe that with the recent upswing in the unemployment rate and clear signs of cooler spending that the BoC would prefer to move to the sidelines in September and give prior hikes time to work, but the inflation figures will make it a tougher call.”
The July inflation numbers come at a crucial point for the central bank, which is trying to assess whether its interest-rate hikes have done enough to slow the economy and bring inflation under control. While inflation has trended lower, the Canadian economy has proven far more resilient to higher borrowing costs than most economists expected. That spurred the central bank to restart rate hikes in June, after a five-month pause, and to hike again in July, bringing the policy rate to 5 per cent.
Bank of Canada Governor Tiff Macklem has warned in recent months that getting inflation from around 3 per cent back to the 2-per-cent target will be challenging, and he has not ruled out additional rate hikes if economic data come in stronger than expected. The bank’s latest forecast extended the timeline for hitting 2 per cent to mid-2025, two quarters later than previously forecast.
“We know that higher rates are having an impact, but how big their impact will be is uncertain,” Mr. Macklem said after the July rate hike.
“With the downward momentum in inflation waning and our forecast suggesting inflation will be around 3 per cent for the next year, we are concerned that the progress to price stability could stall, and inflation could even rise again if there are upside surprises,” he added.
Tuesday’s report showed Canadian consumers are still being squeezed on multiple fronts.
Food costs continue to march higher, although at a slower pace than before. Grocery prices were up 8.5 per cent in July from a year ago, down from a 9.1-per-cent increase in June. Food purchased from restaurants was up 6.1 per cent year-over-year, down from 6.6 per cent in June.
There were a few bright spots in the grocery aisle. Fresh fruit prices fell 6.5 per cent month-over-month, the largest drop since February, 2008. This was led by a 40.9-per-cent drop in the price of grapes compared with June, and a 1.8-per-cent price drop for oranges.
Shelter costs continue to rise. Rent was up 5.5 per cent compared with the previous year, a smaller increase than in June. The bigger increase came from mortgage-interest costs, which were up a record 30.6 per cent in July from a year earlier.
Mortgage-interest costs, which have surged as the Bank of Canada has raised interest rates over the past year and half, have become the single biggest driver of headline inflation. Excluding this item, CPI inflation would have been 2.4 per cent.
As for gasoline – the key driver of reductions in the rate of inflation over the past year – prices were down 12.9 per cent in July compared with a year before. This was considerably smaller than the 21.6-per-cent drop in June. On a monthly basis, gas prices rose 0.9 per cent. They have continued to press higher in August, suggesting that energy costs will push up headline inflation in the next CPI report.
Meanwhile, traders upped their bets on another rate hike on Sept. 6, although they still don’t think this is the most likely scenario. Interest-rate swap markets, which capture expectations about future monetary policy decisions, are pricing in a roughly 33-per-cent chance of a quarter-point rate increase, up from 23.2 per cent priced in on Monday, according to Bloomberg data.
Private-sector analysts remain split on what the central bank will do next month. Katherine Judge, senior economist at CIBC Capital Markets, said in a note to clients that Tuesday’s data reinforce the likelihood the central bank will deliver one more quarter-point rate increase.
“But we expect the rise in the unemployment rate to continue ahead and prevent any further tightening thereafter, and we continue to view the Bank as overshooting and we therefore expect inflation to fall below the 2 per cent target as early as the second half of 2024,” she wrote.
Tiago Figueiredo, a macro strategy associate with Desjardins, argued that the bank will likely hold rates steady in September, as it considers recent weaker-than-expected GDP and employment data.
“Given the Bank of Canada has given itself a long time to reach the 2-per-cent inflation target, this likely won’t be enough to bring central bankers off the sidelines,” he wrote. “As time passes, more mortgages will renew at higher rates and any excess savings will be exhausted, which should weaken demand going into the latter half of the year.”
Tuesday’s strong inflation report creates a political headache for the federal government. In July, Finance Minister Chrystia Freeland celebrated the previous month’s fall of inflation back into the central bank’s 1-per-cent to 3-per-cent control range as a “milestone.”
Conservative Leader Pierre Poilievre mocked this comment in a news conference on Tuesday, saying “Justinflation has struck again,” a reference to Prime Minister Justin Trudeau. He argued that government spending and tax policies are driving up prices.
In a news conference on Tuesday, Ms. Freeland said the decline of inflation from 8.1 per cent this past June to 3.3 per cent is “real progress.”
“Inflation is coming down, jobs are being created and the Canadian economy is strong,” she said.