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Pulling inflation down from its lofty 8.1 per cent peak has been a tough slog for the Bank of Canada and borrowers alike. The central bank’s aggressive 10-part interest-rate hiking cycle has put extreme financial pressure on Canadians as the cost of living has surged, with everything from food to mortgage costs up by double-digit percentages since 2021.

The recent Consumer Price Index reading for February, however, shows real progress, with an under-consensus rate of 2.8 per cent and downward movement among the all-important core measures. That is indeed music to the central bank’s ears, and its Governing Council members are surely patting each other’s backs in the knowledge that all those hikes were worth it.

But what if getting here didn’t need to be so painful?

The great irony of the Bank of Canada’s inflation fight is that it directly fuels one of the largest contributors to the CPI basket: rising shelter inflation, which has skyrocketed owing to higher mortgage interest costs and rents. It’s a classic Catch-22: As the central bank hikes the cost of borrowing, mortgage holders pay more in interest, especially those who are renewing their terms in a much higher rate environment. That gets factored into CPI and pushes up the headline number, therefore supporting the widely-cited rationale to “keep rates higher for longer.”

The impact of shelter inflation is enormous, rising 6.5 per cent annually to account for 28.3 per cent of the CPI’s basket. Mortgage interest costs, specifically, make up 26.3 per cent, marking the fastest-growing portion over a 12-month period.

The fact is, shelter inflation is skewing the big picture.

Taking it out of the equation would actually peg year-over-year inflation at a mere 1.3 per cent – well below the Bank of Canada’s 2-per-cent target. In fact, doing so would mean inflation has come in lower than 2 per cent since last October! Given that other major contributors to the CPI are also decelerating, Canada’s economy is in better shape, inflation-wise, than we’ve been led to believe.

So, why does the Bank of Canada insist on including shelter inflation in its deliberations?

Including mortgage interest costs as a weight for inflation is actually a rarity among central banks, and a practice the Bank of Canada only began in 2016 when it overhauled its method for monitoring inflation growth. It pivoted from using the CPIX – a measure that removes the top eight most volatile contributors to inflation, including mortgage interest costs – in favour of the three it uses today: the CPI common, trimmed mean and median.

The bank felt these new core measures would better track long-term changes in inflation, be less volatile overall and better relate to the underlying drivers of price increases. However, as Toronto-Dominion Bank senior economist James Orlando recently argued in a paper titled The BoC’s Shelter Inflation Problem, a stagnant economy, combined with the massive fluctuations seen in housing markets since the COVID-19 pandemic took hold, mean the “outsized impact of shelter costs is keeping measures of underlying inflation higher in Canada than in other major economies.”

“[Given] that the economy has flatlined since last spring, the BoC’s preferred core metrics have become less connected with the economic cycle due to the influence of structural factors related to housing,” Mr. Orlando writes. “And the fact that one sector is driving this disconnect means that the current inflation metrics aren’t doing a good enough job at guiding monetary policy for the broad economy.”

He points out that no matter how aggressively our central bank acts on interest rates, it simply does not control the demand forces behind the housing market, adding “the longer the BoC continues to look at inflation through its current lens, the longer Canadians will have to bear the weight of a heavily restrictive policy rate.”

The bottom line is, the Bank of Canada’s current inflation gauge doesn’t accurately capture – or counter – the phenomenon of the country’s overheated housing market. While overly accommodative interest rates certainly pose a risk of too-quick price increases, other factors such as rapid population growth and a lack of missing middle and affordable rental housing are also largely to blame – catalysts outside the influence of monetary policy. It’s time for the central bank to readjust its CPI focus so borrowers no longer bear the sole brunt.

James Laird is the co-founder of and president of CanWise Financial mortgage lender. Penelope Graham is the director of content at

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