Inflation slows more than expected but unlikely to sway the Bank of Canada

Economic commentary provided by Alberta Central Chief Economist Charles St-Arnaud. 

Bottom line

Inflation decelerated to 2.9% in January, weaker than expectations. The lower inflation rate is largely the result of a base effect with gasoline prices, which returned to being a drag on inflation, and the lower gasoline tax in Manitoba. Nevertheless, even excluding gasoline prices, inflation moderated in January. Moreover, the Bank of Canada’s measures of core inflation eased in January to their lowest level since November 2021 at 3.35%, still above the target.

In addition, inflationary pressures narrowed in January, with 27.5% of the components of CPI rising at more than 5%, compared to 32.5% in December. Similarly, the share of components increasing by more than 3% eased to 45% from 52% (see Fig 1.). The decline in these measures suggests many CPI components decelerated in January and both measures are at their lowest since the summer of 2021, indicating a narrowing in inflationary pressures.

The recent trend in CPI’s monthly changes also suggests that the momentum in inflationary pressures eased in January and is more consistent with the BoC target. As such, we observe that many of the 3-month annualized changes in some key CPI components eased in January but some, likely shelter, remained above 3% (+4.9%) (see Fig. 2). The 3-month annualized changes in headline CPI is now at 1.8 %, after 2.3% in December. Moreover, the same measure for various measures of core inflation eased on the month, with the BoC’s core measures increasing by 3.2% on average, slightly above 3%. CPI excluding food and energy is at 2.4%, below the BoC’s target range, while it is 1.6% for the BoC’s old measure of core (CPI ex the 8 most volatile components and indirect taxes). Momentum also decreased in measures of inflation excluding mortgage interest costs, but remains below 3%.

The slower inflation momentum, as measured by the 3-month annualized changes, suggests that the moderation in inflation is not only the result of base effects. This is also confirmed by the Narrower inflationary pressures in January and the slower momentum in the BoC’s measures of core inflation. Nevertheless, despite being lower than expected in January, the BoC’s measures of core inflation are not expected to ease below 3% until mid-year.

The broad easing in inflationary pressures in January will provide some relief for the BoC, but it likely remains too early for the central bank to officially declare victory on inflation and believe it does not change the timing of the first rate cut. We continue to believe that the BoC is unlikely to contemplate rate cuts until inflation has been brought sustainably below 3%. With this in mind, a cut in June looks like the most probable timing.

In Alberta, inflation accelerated to 3.4% in January. A sharp increase in electricity costs compared to last year due to a base effect was a big contributor to the higher inflation. As a result, shelter costs accelerated to 10.0% y-o-y, contributing 2.6pp percentage points to inflation. Food prices decelerated and remained one of the main sources of inflation, adding 0.7pp to headline inflation. Inflation excluding food and energy (a measure of core inflation) eased to 2.8% and remained below the national measure.

The Consumer Price Index (CPI) was flat m-o-m non-seasonally-adjusted in January and the inflation rate dropped to 2.9%. This was lower than expectations. Prices increased on the month in three of the eight major CPI components, led by clothing and footwear (-3.2% m-o-m), as a result of seasonal sales. Transportation cost eased (-1.2% m-o-m), as gasoline prices declined (-1.5% m-o-m) due in part to a reduction in Manitoba’s gasoline tax and to a reduction air transportation costs (-23.7% m-o-m). Recreation, education and reading costs were also lower in January (-0.7% m-o-m), thanks to another decline in travel services (-5.4% m-o-m).

The main source of price increases in January was food prices (+0.7% m-o-m). Shelter costs increased 0.3% m-o-m, pushed higher by rents (+0.7% m-o-m) and mortgage interest costs (+1.6% m-o-m). Household operations, furnishings and furniture costs rose (+0.9% m-o-m), as a result of higher communication costs (3.5% m-o-m), especially mobile phone services.

Five of the eight major CPI components decelerated in January on a year-on-year basis. However, shelter costs inflation accelerated to 6.2% y-o-y and remains the main source of inflation, contributing 1.8 percentage points (pp), with about 1.04pp attributable to higher mortgage interest costs and 0.5pp due to higher rent. Transportation costs decelerated to 1.2% y-o-y from 3.2% y-o-y in December, due to a decline in gasoline prices (-4.0% y-o-y) and higher passenger vehicle prices (+2.3% y-o-y). Food price inflation was another source of deceleration in inflation, increasing at a slower 3.9% y-o-y in January, compared to 5.0% y-o-y the month before, and contributing 0.7 percentage points (pp) to headline inflation.

Recreation, education and reading remained a source of drag on inflation, decelerating to 0.3% y-o-y, due to a decline in travel services costs (-3.0% y-o-y) and lower recreational equipment excluding recreational vehicles (-3.0% y-o-y).

In January, goods price inflation eased to 1.3% from 2.4%, mainly due to lower gasoline prices, while services inflation eased to 4.2%. Energy prices are 2.7% lower compared to the same month last year, after declining 0.4% y-o-y in December. Excluding food and energy, prices declined 0.1% on the month and increased by 3.1% compared to the same month last year. The Bank of Canada’s old measure of core inflation, CPI excluding the 8 most volatile components and indirect taxes, edged eased to 2.4%, below the upper band of the Bank of Canada’s operational target.

Looking at the BoC’s core measures of inflation, they were all lower in January. CPI-Trim eased to 3.4% from 3.7%, while CPI-Median declined to 3.3% from 3.5%. As a result, the average of the two measures inched lower to 3.35%, its lowest since November 2021.

In Alberta, inflation rose to 3.4% from 3.0% in December. Shelter costs accelerated to +10.0% y-o-y and was the main source of the higher inflation, contributing 2.6 percentage points to inflation. The higher shelter costs was due to a sharp rise in electricity costs (+120% y-o-y), mainly due to a base effect, and an increase in rent and owned accommodation costs.

Food prices decelerated to 4.1% y-o-y, but remained an important source of inflation in the province, contributing 0.7pp. Transportation costs increased 1.4% compared to last year, due to a rise in the price of passenger vehicles (+3.7% y-o-y), while gasoline prices are lower (-3.3% y-o-y). The component contributed 0.2pp to inflation in January.

Household operation, furnishing and equipment costs were less of a drag on inflation than in December, declining 1.8% y-o-y in January compared to -3.5% y-o-y the month before. As a result, the sector had a smaller drag on inflation in January, reducing inflation by 0.3 percentage points, compared to a 0.6pp reduction in December.

Goods prices inflation rose to 2.6% from 2.1% and services prices to 4.1% from 3.8%. Inflation excluding food and energy edged lower to 2.8%, while energy costs rose 7.8% y-o-y.

 

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