February 29, 2024
Cooler-than-expected inflation numbers have left one strategist even more skeptical of the Bank of Canada‘s conservative forecast for when the consumer price index will return to target, suggesting the door to interest rate cuts could open much sooner than the central bank has predicted.
The Bank of Canada said in its January Monetary Policy Report that it doesn’t expect the consumer price index to come close to its two per cent target until 2025. But Taylor Schleich, a rates strategist at National Bank of Canada Financial Markets, said in note on Feb. 22 that there is a clear path to the two per cent target in the third quarter of this year.
“We’ve been skeptical for a while that it would take that long to get ‘home’ on inflation and this week’s softer-than-expected CPI report reinforced that skepticism,” Schleich said. “This sticky inflation outlook isn’t a new one and has helped policymakers justify pushing back on near-term rate-cut discussion.”
Statistics Canada reported on Feb. 20 that growth of the consumer price index slowed more than expected to 2.9 per cent — the first time it has fallen into the Bank of Canada’s target range of one to three per cent since mid-2021. The central bank sets interest rates to try to keep inflation at two per cent, the goal of the recent round of 10 interest rate hikes after the CPI spiked to 8.1 per cent in June 2022.
Now, National’s Schleich thinks the inflation target and rate cuts are well within the central bank’s sights even without inflation slowing any more than it already has.
“To get two per cent inflation, one doesn’t need to assume inflation decelerates at all from the recent run-rate,” Schleich said. “Indeed, simply plugging in the average monthly increase from the past six months (+0.2 per cent) brings you right to target in Q3.”
His calculations include “problematic” shelter inflation. It grew 6.2 per cent in January, up from six per cent in December, according to Statistics Canada. Rents rose 7.8 per cent, compared to 7.5 per cent in December. Mortgage interest costs were up 27.4 per cent in January.
Schleich further contends the Bank of Canada’s inflation target can be reached sooner than the third quarter should the economy start producing less than it is capable or if inflation returns to pre-pandemic times when it averaged 0.19 per cent from 2010 to 2019.
“Two per cent inflation would be hit even earlier,” he said. If two per cent does come sooner than the Bank of Canada expects, “the 125 basis points of rate cuts we’re forecasting for 2024 aren’t that much of a stretch.”
National is calling for the central bank to start cutting in June and said it’s “entirely reasonable” that bank officials could cut at every meeting in the second half of the year if the economy contracts and unemployment rises. “We still have conviction the BoC can out-ease the Fed in 2024,” Schleich said.
Retail sales in December came in slightly stronger than economists were expecting, driven by sales for new cars and parts. Statistics Canada reported retail sales rose 0.9 per cent to $67.3 billion in the month, while sales were up in five of nine subsectors. For the full year, retail sales finished 2023 at a total of $794.4 billion — up 2.2. per cent from 2022.
Canadian retailers ended the year on solid footing, which was a tick above the advance estimate and consensus, said Katherine Judge, senior economist at CIBC Capital Markets, in a note to clients on Thursday. “Sales in Q4 were overwhelmingly concentrated in autos, which accounted for 77 per cent of the quarterly increase,” she wrote.
“That’s being facilitated by an easing of supply constraints, which doesn’t pose a risk to inflation from the Bank of Canada’s standpoint.” Statistics Canada’s early estimate for January sales was a decrease of 0.4 per cent. “A decline in January points to ongoing struggles amid elevated interest rates and still-above-target inflation,” Shelly Kaushik, BMO Capital Markets economist, said.
