CANADA – Headwinds, such as recent gains in the Canadian dollar, soft labour costs and lower energy prices, have kept inflation tame, but in the medium term, Canada’s consumer price index (CPI) will push toward the Bank of Canada‘s target, finds a new report by CIBC Capital Markets.
The report, Canadian Inflation: What’s Gone Wrong? co-authored by CIBC Chief Economist Avery Shenfeld and Senior Economist Nick Exarhos. The report also notes that the Bank of Canada’s July 12 rate hike – its first in seven years – is resulting in a temporary drag on inflation.
“By pushing the Canadian dollar stronger, the Bank of Canada’s rate hike may have delayed achieving its 2 per cent inflation target. But not for long,” says Shenfeld. “A likely reversion in productivity to trend would, along with minimum wage gains, put pressure on unit labour costs, housing will add a couple of ticks, and we see oil higher in 2018 given that current pricing doesn’t support positive cash flow for the marginal supplies needed from the United States.”
Regional housing market booms have not yet had an impact on CPI because they’ve been offset by low mortgage rates and because CPI measures factor in builders prices which typically lag behind secondary market prices.
“Statistics Canada has advised us that a change in methodology for housing inflation is forthcoming, and we’re guessing that a measure for house prices could be part of that change. But the key to why house prices have been MIA is that mortgages have been generally rolling over at lower rates in the last several years. That’s about to change,” he says.
The report says the CPI for mortgage interest will accelerate from roughly zero to well over 3 per cent by mid-2019.
“That looks dramatic but given the modest weight of this one component, it would add only 0.2% to total CPI. In sum, a giant leap for MIC, but a small step for total inflation,” Shenfeld says.
According to the report, one factor holding down inflation has been unit labour costs, which have decelerated in recent years. While, more recently, compensation has accelerated as unemployment dropped, that has been offset by surging productivity, with unit labour costs easing to a slim 0.4 per cent annual growth rate through the first quarter of this year.
“Looking ahead, the compensation component should see further pressure, as it captures the lagged impacts of the recent tightening in Canadian labour markets on wage settlements,” says Shenfeld. “In addition to that invisible hand of markets, higher minimum wages in Ontario, BC and Alberta will be kicking into labour costs in the next two years.”
