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Inflation Accelerates in Canada, Outlook Remains Unchanged

by Hector Demarco | September 15, 2021

Data released by Statistics Canada this morning showed prices rising 4.1 percent year-over-year in August, slightly above the 3.9 percent median forecast. This was the fastest annual increase since March 2003. On a monthly basis, the Consumer Price Index climbed 0.2 percent.

Highly volatile categories pushed up price averages: Prices rose in seven of eight index components, with a jump in transportation costs contributing the most to the headline print. Flattered by base effects, gas prices continued to gain, rising 32.5 percent year-over-year, up from the 30.9 percent recorded in July. And the homeowners’ replacement cost index – a proxy for new home prices – leapt 14.3 percent – the largest yearly increase since October 1987 (13.8 percent), while the owned accommodation expenses index, which includes commission fees on the sale of real estate, rose at exactly the same pace.

Underlying price pressures remained relatively tame: Core inflation, computed as the average of the three inflation measures preferred by the Bank of Canada (trim, median, and common), increased an annualized 2.57 percent.

Central bankers expected this: In the central bank’s July Monetary Policy Report, officials explained that temporary supply-demand price pressures and base effects were likely to push inflation above 3 percent for the remainder of the year – and possibly into early 2022.

Medium and long-term market forecasts remain anchored: Break-even rates on 5-year and 10-year inflation indexed bonds continue to float slightly below 2 percent, suggesting that investors are not worried about future price increases.

And the Bank of Canada remains on track to reduce stimulus: In the speech following last week’s monetary policy decision, Governor Tiff Macklem said the economy continued to make good progress towards a full recovery, matching July predictions. With the unemployment rate falling for the third consecutive month to 7.1 percent in August – the lowest rate since the beginning of the pandemic – markets remain convinced that the central bank will decide to reduce weekly asset purchases from $2 billion to $1 billion in October, with two interest rate hikes coming in the second half of 2022.

Oil prices continue to support the loonie: New daily cases triggered by the Delta variant seem to have peaked in Asia, improving the global growth outlook. West Texas Intermediate and Brent crude future contracts are now trading around $73 and $70 per barrel, up from their respective August lows of $65.18 and $62.32.

And a (potentially) delayed US Federal Reserve tapering decision leaves room for upside: Yesterday’s US consumer price index data indicated a weakening in price pressures, causing the dollar to drop sharply and mid-curve Treasury yields to fall. The jury is still out on what the latest print means for the economy, but some analysts believe it could be an early sign of weaker economic activity, as increasingly-cautious consumers reduce spending across a number of reopening categories.

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