Forecasters anticipate this week’s consumer price index report to show inflation rose last month, signalling a reversal in progress after a year of steady declines in inflation.
Canada’s annual inflation rate fell back to the country’s target range in June for the first time since March 2021, tumbling to 2.8 per cent.
But economists expected the victory against high inflation to be short-lived, as underlying price pressures suggest it will take some time for inflation to return to the two per cent target.
“I think (the report) is going to be a bit of a dash of reality for everyone, including the Bank of Canada, that basically the easy phase is over and now the hard work begins,” said Douglas Porter, BMO’s chief economist.
Both BMO and CIBC expect inflation to come in at 3.1 per cent in July, largely due to higher gasoline prices.
The U.S. experienced a similar uptick in inflation last month, as its annual rate rose to 3.2 per cent, up from 3.0 per cent in June.
Porter said although lower gasoline prices have driven the decline in inflation over the last year, rising prices may start to add to inflationary pressures.
“Gasoline has very quickly gone from being a big drag on inflation to being close to neutral to possibly adding to inflation, again, as early as next month’s report,” Porter said.
A rise in inflation in July’s report probably wouldn’t be a complete surprise to the Bank of Canada.
Its most recent forecasts show it’s expecting inflation to hover around three per cent over the next year before steadily declining to two per cent by mid-2025.
The central bank said the new projections pushed its governing council to hike rates again in July by a quarter of a percentage point as it looks to get inflation down faster.
The Bank of Canada’s key interest rate now sits at 5.0 per cent, the highest it’s been since 2001.
Although Porter doesn’t expect the Bank of Canada to raise interest rates again in September, he says it’s difficult to rule out another rate hike.
“I would freely admit that we, and most others, also thought the Bank of Canada was done, you know, after their January rate hike,” Porter said.
“All I will say is that never say never.”
After announcing a pause on rate hikes in January, the Bank of Canada came off the sidelines in June and started raising interest rates again in response to a hot string of economic data.
Both economic growth and the labour market have been outperforming expectations this year.
But signs of softening are starting to emerge.
The labour market is no longer as tight as it was last year, and the unemployment rate has been on the rise.
Over three months, the unemployment rate has risen from 5.0 to 5.5 per cent.
Porter said this steady increase should give the central bank pause, as economists anticipate unemployment to continue to rise.
“It’s a tough decision to keep raising interest rates when the unemployment rate is rising,” Porter said.
“I would actually say it would be unwise to keep raising interest rates with the kind of upswing we’ve seen in the unemployment rate in the past few months.”
While many economists share Porter’s expectations that interest rates will not continue to rise, CIBC executive director of economics Andrew Grantham says he expects another rate hike.
“One of the reasons why our current forecasts actually have one more interest rate hike from the Bank of Canada … is that the Bank of Canada does seem to be kind of leaning toward the risk of doing too much,” Grantham said.
“They would rather get inflation back to target quicker rather than later.”
The central bank’s next interest rate decision is slated for Sept. 6.
banner image: The Canadian Press