Economists give their verdict – and as ever, inflation will prove key
Economists are predicting a modest decline in Canadian inflation, which may set the stage for a potential interest rate cut later this month.
May’s headline inflation climbed to 2.9% from April's 2.7%, driven largely by rising service costs. This uptick surpassed economists’ predictions and raised concerns about the inflation trajectory.
However, experts now believe that June’s data will show a resumption of the downward trend, providing the Bank of Canada with the flexibility to reduce rates at its next decision on July 24.
“If we’re judging the ‘quality’ of these inflation reports based on month-to-month movements in the broad array of core CPI measures, then the May report was the first bad one after four good ones in a row from January through April,” BMO senior economist Robert Kavcic told the Financial Post. “So, a favourable June print would leave the running tally at five-of-six on the good side, which could very well justify further rate cut.”
December 2023 saw headline inflation at 3.4%, significantly above the Bank of Canada's 2% target. Since then, core inflation measures - the key metrics the central bank considers when making policy decisions - have been on a gradual decline.
David Rosenberg, chief economist at Rosenberg Research & Associates, views May's inflation bump as an anomaly rather than a trend reversal.
“The May report was a temporary deviation from what is still a downward trend in underlying inflation and that message I believe is going to be reinforced in the June data,” Rosenberg said.
While the general outlook leans towards decreasing inflation, some sectors may still face upward pressure.
Read next: Has the Bank of Canada's rate cut improved homebuyer confidence?
Desjardins chief economist Jimmy Jean anticipates that service costs will remain elevated. However, he predicts a potential peak in rental price inflation, which has been accelerating since 2021. Jean forecasts overall inflation to ease to 2.8% year-over-year in June, down from May's 2.9%.
Katherine Judge, an economist with Canadian Imperial Bank of Commerce (CIBC), projects a more pronounced drop in headline CPI during the third quarter.
“In the third quarter, the headline CPI index should drop off sharply on base effects, with inflation likely averaging 2.3% year-over-year in the quarter,” Judge said. “Core measures will likely come down at a more measured pace, as mortgage interest costs ease off and demand remains soft.”
The Bank of Canada's April monetary policy report predicted inflation would fall below 2.5% in the latter half of 2024. Governor Tiff Macklem's June statement that the Canadian economy was headed for a "soft landing" further reinforced this optimistic outlook.
However, Rosenberg argues that the central bank should have acted sooner to cut rates, citing an anticipated recession and a rise in unemployment to 6.4% in June, with the economy shedding 1,400 jobs.
“The cat was let out of the bag at the April meeting when the bank uttered these two words in the press statement: excess supply,” Rosenberg said. “They should have cut rates at that meeting. The Bank of Canada is as far behind the economic curve as it was the inflation curve two years ago.”
Recent US data showed unemployment rising to 4.1% and core inflation dropping to 3.3% year-over-year in June, its lowest level in three years. Federal Reserve Chair Jerome Powell's recent Senate testimony acknowledged the risks of delaying rate cuts.
Read more: Will lower US inflation sway the Bank of Canada to cut rates in July?
“Reducing policy restraint too late or too little could unduly weaken economic activity and employment,” Powell said.
Market expectations now lean towards the US Federal Reserve announcing an interest rate cut in September. Such a move could mitigate concerns about divergence between Canadian and US monetary policies, reinforcing the Bank of Canada’s confidence in further rate cuts this year.
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