Canadian inflation is cooling but remains hot enough to stop further rate cuts. Statistics Canada (Stat Can) data shows the headline consumer price index (CPI) stalled in May. That would typically be good news—if not for rising risks that inflation could accelerate again. In response, RBC believes the central bank’s easing cycle is over, and further easing would have to be justified by a weaker economy and clearer signs of deceleration.
Canadian Headline Inflation Was Flat, But Half of Items Are Above Target
Canadian headline CPI stalled last month and remained suppressed due to energy policy changes. CPI annual growth came in at 1.7% in May, unchanged from April.
“The year-over-year reading continued to be distorted by the carbon tax removal, which is still lowering the after-tax price of consumer energy products from a year ago,” explains Abbey Xu, an economist at RBC.
CPI excluding energy was 2.7% in May, slightly lower than the 2.9% reported in April. That’s a slight improvement, but still 0.7 points higher than the Bank of Canada’s (BoC) target rate, and only 0.3 points below its upper band of tolerance.
Xu further notes that nearly half (48%) of CPI components saw prices grow more than the 3.0% target in May. That’s better than the start of the year, but a step backwards from April.
Cheaper energy prices may soon lose its ability to weigh down headline inflation. The reduction was primarily due to the elimination of the consumer carbon tax, largely impacting gasoline prices. This created an abrupt downward pressure in April that largely persisted into May. Despite the policy-driven drop, gas prices still climbed 1.9% from April to May.
Bank of Canada’s Preferred Inflation Measure Still Hot, But Improving
The Bank of Canada’s (BoC) preferred measure of inflation showed some signs of moderating. Core CPI is considered a more accurate view of total inflation movement, as it excludes the most volatile components and tax effects. This helps to eliminate much of the noise that can cloud the headline data.
May’s Core CPI was 3% higher than last year, down from the 3.4% reported in April. Considering the central bank’s upper bound of tolerance, the BoC is more-than-likely going to wait for a persistent reduction below the threshold before celebrating.
Bank of Canada Rate Cuts May Be Over, Warns RBC
CPI has been distorted by the consumer carbon tax, obfuscating some of the price growth observed by RBC. Rising geopolitical risks and the trade war are both expected to boost the cost of living. While the impact has yet to become material, it’s sure to be a lingering concern for the BoC.
Xu notes, “We continue to monitor the impact of retaliatory tariffs on consumer prices, particularly for autos and groceries. Early signs of price hikes were evident in April, and the pace of price increases for new passenger vehicles accelerated further in May but grocery price inflation eased.”
Most experts were forecasting at least a few more rate cuts from the BoC in the coming months. However, that outlook may change quickly with recent developments.
“The Bank of Canada appears to have reached the end of its cutting cycle, with the policy rate now in the middle of the neutral range. While it has left the door open to further easing, that would likely depend on clearer signs of economic weakness alongside contained inflation,” explains Xu.