Will cooling inflation sway the Bank of Canada on interest rates?

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There are several signs that Canadians could be glimpsing the backside of brutal inflation that spiked to 8.1 per cent in June.

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Data released Tuesday by Statistics Canada for August showed that year over year, the consumer price index rose 7 per cent, still up, but nonetheless down from a 7.6 per cent increase in July.

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It was the second monthly decline in a row and the largest since the early days of the pandemic.

While the easing pace of the cost of living may bring some relief to Canadians, the big question for market watchers is: are the August numbers enough to cause the Bank of Canada to reconsider its rate hiking path?

Here’s what economists have to say:

Leslie Preston, managing director & Senior Economist TD Economics

“A journey of a thousand miles starts with a single step. Canadian inflation took a single step in the right direction in August, but it still has a long way to go. The Bank of Canada (BoC) core measures of inflation remain more than two percentage points from the target range of one to three per cent. The BoC has hiked interest rates 300 basis points so far this year, and the impact of that is starting to be felt in the economy. Even still, we expect more slowing in demand, which should help bring down inflation along with it. Still, there is a long journey ahead, and we expect the BoC to continue hiking its policy rate at the end of October, and take the policy rate to 4% by the end of the year”

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Stephen Brown, Senior Canada Economist, Capital Economics

“The larger-than-expected falls in headline and core inflation in August lend some support to our forecast that the Bank of Canada will drop down to a 25 basis-point hike in October, particularly with the labour market also weakening in recent months. Headline inflation is admittedly still far too high at seven per cent, but that was at least lower than the 7.3 per cent consensus forecast. Moreover, in contrast to our expectation that core inflation would be broadly unchanged, all three of the Bank’s measures declined, with CPI-common falling from an upwardly revised 6 per cent in July to 5.7 per cent, while CPI-trim slowed from 5.4 per cent to 5.2 per cent and CPI-median edged down to 4.8 per cent, from 4.9 per cent. … The headline rate is likely to slow again in September and we now expect inflation to average 7.1 per cent this quarter, which would be much better than the Bank’s forecast from July that it would average 8 per cent. The risks to our forecast that the Bank will drop down to a 25 basis-point hike next month are still tilted to the upside but, with the leading indicators pointing to a further improvement in core inflation and the labour market weakening in recent months, we are doubtful that the Bank will hike its policy rate to more than 4 per cent, from the current 3.25 per cent, as markets are currently pricing in.”

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Andrew Grantham, CIBC Economics

“Canadian inflation decelerated further in August, and unlike the prior month the move wasn’t just a story of lower gasoline prices. … 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. 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.”

Nathan Janzen and Claire Fan, RBC Economics

“Near-term data have continued to point to some improvement in the future inflation outlook. Less businesses surveyed in the Canadian Survey on Business Conditions were concerned about sourcing input or maintaining inventories in Q3, in line with reports of improving supply chain conditions. Both the raw material price index (input prices manufacturers are charged) and the industrial product price index (output prices from manufacturers) in Canada have been trending lower since May following a long run-up over the course of the pandemic. All of that, together with flattening demand according to our own tracking of card spending, looks likely to further limit the pace of price growth for physical merchandise going forward. Growth for services prices in the meantime, especially those that are leisure and travel related, is expected to remain higher for longer, supporting strength in core inflation which we don’t project to peak until later in Q4 this year. That should be more than enough to keep the Bank of Canada on its current hiking path. We anticipate another 75 basis points worth of increases in the overnight rate for it to reach 4 per cent by December.”

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