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20 September 2018

Canada inflation: Price growth should begin to slide

Cast your mind back to last month, when inflation caught markets off-guard. Headline CPI spiked on higher energy costs, and tomorrow's August data should be a similar story 

What really matters for the Bank of Canada

We expect headline inflation to come in at 2.8% year on year, a mild slowdown from July’s 3% bumper figure, however, we don’t expect to see any substantial impact from tariffs.

July was the first month that could have seen President Trump's administrations' tariffs push up Canadian prices, but in the end, we didn’t see any signs of this. And barring any substantial increase in this trade war spat, between the US and Canada over the coming weeks, we expect headline CPI to drift back towards target in early 2019 gradually. The upward pressure from fuel prices appears to be moderating as gasoline prices have stabilised, since the large uplift through the second quarter.

But what really matters for the Bank of Canada is core inflation, and here the news has been pretty good. All three of the Bank’s main measures of core prices are floating around the 2% target. These are likely to come under some upward pressure as the effect of the increase in minimum wages translate into higher prices. The slightly weaker Canadian dollar may also add some impetus.

July’s headline CPI represents somewhat of a peak; we shouldn’t see figures stretch far beyond this

Source: Macrobond
Macrobond

This makes it likely that we’ll get another rate hike from the Bank of Canada in October, although as ever the odds really hinge on Nafta progress. Talks are entering an intense phase, with an intention for a new deal to be signed before Mexican President Enrique Pena Nieto leaves office in December.

Trading future still shaky

As we outlined here, we see three possible outcomes from the negotiations, each of which could have quite a different impact on inflation and growth. Not only is the Loonie sensitive to the outcome of talks (or lack of), the level of uncertainty will also have a direct impact on consumer and business optimism.

But an October hike is still on the cards

If we get some possible news from discussions this week – for example, signs that an agreement can be fudged sooner than later – our FX team believe this could push USD/CAD further below 1.30, perhaps towards 1.27/28. This would also likely help cement expectations for an October rate hike.

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