Slowly but surely

Canadian CPI data for August, released by Statistics Canada this morning, suggest that we may now be past the worst of the recent inflation spike. On a year-on-year basis headline CPI slowed more than expected, falling to 7.0 percent from the 7.6 percent  recorded in July and 8.1 percent in June, which now seems likely to have been the peak. Monthly numbers, which are arguably more relevant* than the yearly numbers at turning points, provide even stronger evidence of the emerging trend: unadjusted CPI fell 0.3 percent in the month, the biggest decline since early in the COVID pandemic, while the seasonally adjusted headline number rose 0.1 percent, the smallest rise since December 2020. 

As was the case in July, falling gasoline prices accounted for much of the improvement in headline inflation. Gasoline prices once again fell by more than 9 percent month-on-month, though they remain more than 22 percent higher than a year ago. Even stripping out gasoline prices, the August data show some sign of a changing trend: the year-on-year increase for CPI excluding gasoline slowed to 6.3 percent from 6.6 percent a month earlier, the first deceleration in this measure since June 2021. 

The most concerning aspect of the latest data continues to be the performance of food prices. Grocery prices rose 10.8 percent from a year earlier, the fastest pace seen since 1981, and StatsCan characterizes the increase as "broad-based". Excluding both food and energy, the increase in CPI was 5.3 percent, down from 5.5 percent in July. 

The Bank of Canada's preferred core measure of inflation, which have been rising inexorably for many months, finally went into reverse in August. The mean value of these three measures slipped by about 0.2 percent in the month, to just over 5.2 percent.

The clear evidence of a turning point in CPI growth will obviously factor in to the Bank of Canada's rate decision in October. It is unlikely that we will see any more outsize rate hikes in this cycle; a 25 basis point move is altogether possible.  The likelihood that the Bank may now be on a less aggressive tightening track than the Federal Reserve is contributing to the moderate weakening in the Canadian dollar, which could add to Canadian inflation in the medium term. However, amid signs that rate hikes are having a growing impact on the domestic economy, particularly the housing sector, the Bank is unlikely to react strongly to the falling exchange rate. 

* This is a point that the media seem determined to overlook. The year-on-year CPI increase is composed of twelve separate monthly data points. The older numbers, which were considerably larger than those we are now seeing,  only fall out of the index one at a time. Focusing on the year-on-year data as a guide to Bank of Canada policy is like driving while looking in the rear view mirror. We can hope that the Bank knows better.