19 June 2008

Canadian Chamber Economic Update - Inflation Report

In May, the headline inflation rate (as measured by the All-items Consumer Price Index - CPI) jumped 2.2% year-over-year, up from 1.7% in the prior month. The acceleration was the sharpest since September 2007.

The main contributor to the 2.2% rise was higher gas prices, which rose 15.0% in May compared with the same month a year earlier. Higher mortgage interest costs were also a contributing factor as new housing prices continued to exert more upward pressure on this index than mortgage interest rates.

 The Bank of Canada's closely watched core measure of inflation (which excludes the 8 most volatile components of the CPI as well as the effect of changes in indirect taxes) edged up 1.5% year-over-year identical to the 12-month increase posted in April. Lower prices for passenger vehicles dampened the upward pressure on the core index.

The bottom line: The Bank of Canada had predicted that total CPI inflation will rise above 3% later this year. In all likelihood, we will get to that level sooner rather than later. Even the core rate of inflation is poised to rise further. The Bank of Canada will likely hold off rate hikes for now given the uncertainty and downside risks to GDP growth, but look for rate hikes in 2009.