Bank of Canada faces dilemma as core inflation heats up

Yahoo

20-05-2025

Headline inflation slowed in April mainly due to drop in gasoline prices because of the elimination of the federal carbon tax, but it was a different story for the measures the Bank of Canada follows.
Statistics Canada said Tuesday the main reading on the consumer price index (CPI) decelerated to 1.7 per cent year over year just ahead of analysts' estimates of 1.6 per cent and down from 2.3 per cent in March.
Gas prices fell 18.1 per cent in April, also helped by lower oil prices, pushing the overall inflation rate below the Bank of Canada's two per cent target for the first time since January.
However, the central bank's preferred measures — core CPI median and trim, which strip out the effects of taxes — accelerated to 3.2 per cent and 3.1 per cent year over year from 2.9 per cent and 2.8 per cent, respectively.
April's results boost those measures above the top end of the Bank of Canada's inflation target range of three per cent.
Here's what economists think the numbers mean for the central bank and its upcoming interest rate decision on June 4.
'The Canadian inflation numbers for April were hotter than expected, which comes as a surprise to a wobbly economy replete with employment loss and widening spare capacity in the labour market,' David Rosenberg, founder of Rosenberg Research and Associates Inc., said in a note, pointing to the pickup in core inflation.
Rosenberg also said 'it was disappointing' to see a jump in the core reading that excludes food and energy, which has risen in four of the past five months.
The 'staycation' trend was the main source of the underlying increase in inflation as travel services rose 8.7 per cent in April month over month. Recreation services and restaurants also benefited from the stay-at-home movement.
'This places the Bank of Canada in a bit of a box,' he said.
The latest CPI data shows that 'underlying inflation pressures still pose a threat,' said Thomas Ryan, North America economist with Capital Economics Ltd.
Stripping out gasoline, the rate of inflation stepped up to 2.9 per cent year over year from 2.5 per cent.
Prices rose for airfares, motor vehicles, with the latter taking a hit from retaliatory tariffs — and food prices.
'While this level of underlying inflation is still too high for the Bank of Canada's comfort, the bank's mostly dovish tone in April suggests it is more focused on economic risks,' Ryan said.
Capital thinks the Bank of Canada will cut its rate again in June after pausing in April because weak employment and housing data point to 'growing signs that U.S. tariffs are putting strain on the economy.'
The Bank of Canada will likely look past the slowdown in headline inflation since it was mostly driven by the one-off cancelation of the carbon tax, but the acceleration in core measures will concern policymakers, said Royce Mendes, head of macro strategy at Desjardins Group.
But Mendes said the elimination of the carbon tax could have longer-term effects such as tempering people's inflation expectations.
'We expect that upcoming surveys will show a sharp reversal of the spike in inflation expectations seen earlier this year,' he said, adding that the Bank of Canada should have that data before its June 4 interest rate announcement.
Given that the economy is weakening and inflation expectations are slowing, Mendes thinks the Bank of Canada will go ahead and cut rates by 25 basis points next month.
'We recently revised our terminal rate forecast to two per cent, up from 1.75 per cent, and today's slightly hotter data reinforce that decision, but the data don't remove the need for monetary stimulus in the near-term,' he said.
Canada's inflation rate cools to 1.7% as consumer carbon tax ends
Bank of Canada rate to go lower, but not too low: Desjardins
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