Stubborn inflation paves way for large Bank of Canada rate hike

Open this photo in gallery:

Canadian inflation slowed slightly in September, but not to the extent that financial analysts were expecting as some products and services continued to accelerate in price.

The numbers pave the way for another outsized Bank of Canada rate hike next week – perhaps taking the policy rate to 4 per cent, the highest since 2008, as more economists are now predicting.

The consumer price index, or CPI, rose 6.9 per cent in September from a year earlier, Statistics Canada said Wednesday in a report. That was down from 7 per cent in August and marked the third consecutive month of deceleration. It was, however, widely seen as a disappointment on Bay Street: Analysts had predicted inflation would ease to 6.7 per cent.

Inflation is proving sticky. After excluding food and energy, which can be volatile aspects of the CPI, prices rose 5.4 per cent over the past year, up from 5.3 per cent in August. On a monthly basis, CPI rose at a faster pace in September than in August. And in a distressing sign for many families, grocery inflation hit a new multidecade high.

To tamp down inflation, the Bank of Canada is universally expected to deliver another large rate hike at its next decision on Oct. 26. Analysts are divided on the magnitude of an increase, although most are leaning toward a 75-basis-point hike from the current 3.25 per cent. (A basis point is 1/100th of a percentage point.)

After Wednesday’s report, some banks – including Canadian Imperial Bank of Commerce and Bank of Montreal – altered their predictions to a 75-basis-point increase from 50.

“We were frankly disappointed, given a big drop in gasoline prices, that inflation didn’t take a bigger step back,” said BMO chief economist Doug Porter in an interview. “Inflation has proven to be quite persistent here. It’s a tougher nut to crack than I think many expected.”

Gasoline prices fell 7.4 per cent in September, the third consecutive month of decline, helping to offset other increases. However, that trend is reversing: As of Tuesday, the national average retail price of regular unleaded gas was $1.72 a litre, up 7.3 per cent from the daily average in September, according to Kalibrate Technologies.

How the Street is reacting to a hot inflation report that has markets now bracing for a 75 basis point BoC rate hike

Why bananas have avoided inflation – so far

For shoppers, there was no relief at the supermarket. Grocery prices rose 11.4 per cent on an annual basis, the quickest pace since 1981. The price increases were widespread, with meat rising 7.6 per cent, dairy products by 9.7 per cent, and fresh vegetables by 11.8 per cent.

“Contributing to price increases for food and beverages were unfavourable weather, higher prices for important inputs such as fertilizer and natural gas, as well as geopolitical instability stemming from Russia’s invasion of Ukraine,” Statscan said in the report.

Prices for durable goods rose 6.7 per cent in September, on an annual basis, up from 6 per cent in August. Furniture prices jumped 13.3 per cent, while those for passenger vehicles rose 8.4 per cent, which Statscan attributed in part to a semiconductor shortage that’s dragged on for years.

Inflation slowed to 6.9% in September. Here’s what that means for the cost of living in Canada

Canadian consumers are facing another issue: the depreciation of the loonie. The Canadian dollar has tumbled about 10 per cent against its U.S. counterpart over the past year. Investors have flocked to the U.S. dollar of late, in part because the greenback is a safe-haven asset during times of economic turmoil, but also because the U.S. Federal Reserve is raising interest rates quickly, boosting the returns on some U.S. investments.

While a weaker loonie can be good for Canadian exporters, it also raises the price of imported goods – a troubling development at a time of already lofty inflation.

“That aggravates our inflation issue,” Mr. Porter said. “If the Bank of Canada were to stand aside when the Federal Reserve is hiking very aggressively, that would weaken the currency even more. We don’t have to necessarily match U.S. interest rates tick for tick, but we can’t stray that far away.”

The Bank of Canada published surveys of consumers and businesses on Monday that showed pessimism is spreading through the economy, with a majority of respondents expecting the country to enter a recession in the next year. Inflation expectations – which are key in wage negotiations and price-setting – remain high among households and companies.

Confidence is waning in the private sector. On Monday, Bank of Nova Scotia became the latest financial institution to predict an economic downturn in the near future, saying Canada would experience a “technical recession” in the first half of 2023.

“The decline in economic activity is likely to be minor and short-lived owing to the underlying resilience of the economy,” read the report from chief economist Jean-François Perrault and René Lalonde, the bank’s director of modelling and forecasting.

“Firm and household balance sheets remain strong, and the labour market is still dramatically short of workers. Regardless of the headwinds coming from beyond our borders, the simple reality is that Canadian firms are confronting serious challenges in their ability to increase production owing to these labour shortages.”

Workers, meanwhile, are continuing to see their purchasing power decline. In September, the average hourly wage rose 5.2 per cent on an annual basis, lagging the change in CPI.