Inflation ticked up to 2.9% in May. Are July rate cut hopes still alive?

Click to play video: 'May inflation numbers ticks up to 2.9%'
May inflation numbers ticks up to 2.9%
The latest numbers from Statistics Canada show inflation actually climbed in the wrong direction, growing 2.9% in May. Central 1 Credit Union Chief Economist Bryan Yu discusses the ramifications. – Jun 25, 2024

A surprise uptick in May’s inflation figures is pouring water on hopes for another interest rate cut from the Bank of Canada in July.

Inflation accelerated in May as the costs of services and groceries ticked up, Statistics Canada said Tuesday.

The annual rate of inflation was 2.9 per cent in May, the agency said. That’s up from the 2.7 per cent annual rate in April.

Statistics Canada said inflation on services drove up the headline figure as Canadians paid more on rent, cell services, travel tours and air transportation. Travel to the United States drove the increases in travel costs, the agency noted.

Grocery prices also accelerated slightly, with annual inflation here rising 1.5 per cent, up 0.1 percentage points from April’s pace. The month-to-month increase in grocery prices was the largest seen since January 2023, StatCan said, with cost hikes here driven by fresh fruit and vegetables, meat and non-alcoholic beverages.

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Stephen Brown, deputy chief North America economist with Capital Economics, tells Global News that some elements of the consumer price index (CPI) tend to be “volatile.” He doesn’t expect large increases in the cost of travel to be repeated this month, for example.

On food, Brown also notes that indicators for agricultural commodities suggest that price pressures here also won’t be sustained in the months to come.

“They’re all suggesting that food inflation in the CPI should remain well behaved. So I don’t really think this is anything to be too concerned about just yet.”

Click to play video: 'BIV: Food inflation to continue into the summer'
BIV: Food inflation to continue into the summer

Prices for gasoline were meanwhile down 1.3 per cent on a month-to-month basis in May, StatCan said.

Shelter inflation remained steady at 6.4 per cent annually in May, but pressure ratcheted up on renters. Rent costs were up 8.9 per cent in May, an increase from 8.2 per cent in April.

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Another factor keeping shelter inflation elevated is the mortgage interest cost index, which is tied to Canadians renewing their mortgages into the higher interest rate environment. May’s CPI figures do not capture the Bank of Canada’s 25-basis-point interest rate cut earlier this month, and most market watchers argue there will be little relief from the first quarter-point easing of the cycle.

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Inflation has remained under three per cent for all of 2024 so far, but most economists had expected inflation would continue the cooling trend of recent months. The Bank of Canada’s preferred metrics of core inflation also accelerated in May.

Dawn Desjardins, chief economist of Deloitte Canada, tells Global News that though overall price hikes have abated from decades-high levels in recent years, whether its mortgage costs or rising rents, Canadians are still feeling the pinch when it comes to housing.

“These are persistent pressures within the economy and they are pressures that impact Canadians,” Desjardins says.

Click to play video: 'Impacts of Bank of Canada rate cut'
Impacts of Bank of Canada rate cut

How will the Bank of Canada react?

The central bank will be watching the May inflation figures closely as it decides whether it can deliver back-to-back interest rate cuts at its next meeting in July.

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Speaking Monday in Winnipeg, Bank of Canada governor Tiff Macklem told reporters that it is “reasonable” to expect additional rate cuts if the economy and inflation evolve in line with the central bank’s expectations.

He told reporters that the Bank of Canada is “really trying to balance the risks” between making monetary policy more restrictive than it needs to be to tame inflation and ensuring the central bank doesn’t ease too far too quickly.

“We want to see interest rates come down, too. But we don’t want to lower them too quickly and jeopardize the hard-won progress we’ve made on getting inflation down,” Macklem said.

Katherine Judge, director and senior economist at CIBC, said in a note to clients Tuesday morning that the May inflation figures do not bode well for another rate decrease so soon.

“Overall, with the data showing much faster price pressures than expected, this casts a lot of doubt on the possibility of a July cut,” she wrote.

Click to play video: 'Interest rate cuts ‘reasonable’ to expect if inflation lines up with Bank of Canada’s expectations: Macklem'
Interest rate cuts ‘reasonable’ to expect if inflation lines up with Bank of Canada’s expectations: Macklem

Reuters said Tuesday that money markets heavily trimmed their bets and now see a 45 per cent chance of a rate cut in July, down from more than 70 per cent seen on Monday.

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Desjardins’ expects that the Bank of Canada will hold rates steady at the July 24 rate decision. While a second consecutive interest rate cut is in the realm of possibility, she says that the central bank is likely to be “methodical” and “deliberate” about the pace of easing.

The Bank of Canada will get another inflation report for June, as well as fresh jobs and gross domestic product data, before it has to make its next rate decision. Desjardins says the central bank is “very data dependent” at the moment and will want to give itself as much information as possible to see whether the latest inflation flare up is a one-off or a trend.

“Certainly July is not off the table for a rate reduction, but we think that most likely we will see them hold off, really get a even greater amount of data to assess really what’s going on,” she says.

Brown says that if June’s inflation report is a repeat performance of May, the Bank of Canada is liable to pause in July.

But whether the next rate cut comes in July, September or later, Brown argues the trend for the Bank of Canada is clear: rates are likely heading down. Another pause would not significantly affect the calculus for the central bank nor, by extension, Canadian households keen to see borrowing costs come down. he says.

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“I think that’s not really going to change the overall trend that interest rates are likely to be a lot lower in a year than they are now. It just maybe would take a tiny bit longer to get there,” he says.

— with files from Reuters

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