BUSINESS

Canada Inflation: May's Rate Drops To 1.2% Due To Dipping Gas Prices

06/22/2012 08:36 EDT | Updated 08/22/2012 05:12 EDT
CP
OTTAWA - Canada's inflation rate tumbled to the lowest level in almost two years last month, removing the last remaining pressure point on the Bank of Canada to raise interest rates.

Statistics Canada reported Friday that May's inflation rate fell almost a full point to 1.2 per cent — the lowest since June 2010 — and that prices overall were actually a smidgen lower last month than they were in April.

Analysts cautioned that the sharp decline from two per cent in April does not augur a period of no inflation or even consumer price declines, but it does suggest the cost of living in Canada will remain stable in the short term.

The big reason for the drop was gasoline prices, which fell 2.3 per cent from this time last year. But the price of natural gas also declined, as did video equipment and women's clothing, while price increases on many other consumer goods and services moderated.

"While this is good news overall, I wouldn't get too carried away thinking we're headed for deflation," said Doug Porter, deputy chief economist with BMO Capital Markets.

"There were some special timing factors that made the inflation numbers look more benign than is the reality. But inflation at this point is the least of our worries ... the pressure on the Bank of Canada to move on rates is vaporizing."

The TD Bank also saw the report as a bit of an "outlier," saying underlying price growth is better reflected by the 1.8 per cent core inflation index — which excludes volatile items such as gasoline. Still, that is well within the two per cent Bank of Canada target.

The timing factors mostly involve energy. Gasoline prices rose almost 30 per cent in May of 2011 on an annualized basis, before beginning a pullback in June. This year, the peak appears to have occurred in April and the retreat started in May.

That suggests that next month's inflation number won't show such a steep decline, or may even rise, unless gas prices fall even more steeply this month than they did in June 2011. Energy is a major component of the CPI, along with food, so any significant change in either tends to be reflected in the overall inflation measure.

Bank of Canada governor Mark Carney has been giving every indication in the past few months that he is eager to return interest rates to more normal levels after staying at a super-low policy setting of one per cent since September 2010, in part because he worried low borrowing costs are luring too many Canadians to take on debt and artificially heating up the housing market.

But given the worsening economic news from Europe, China and the United States — and to a lesser extent even Canada — Carney has been loath to act fearing tightening monetary policy would elevate the Canadian dollar and slow economic activity, particularly currency-sensitive sectors such as exports.

Finance Minister Jim Flaherty took care of one of Carney's worries on Thursday, reducing the amortization period on mortgages to the historic level of 25 years, a move analysts believe could result in a reduction of up to five per cent in home sales.

Most economists believe the central banks won't be in position to start raising interest rates until sometime next year, while some predict it may not act until 2014 when the U.S. Federal Reserve expects it will start tightening monetary policy.

While that is good news for borrowers, low rates present challenges to insurance firms and limit pension plan growth Canadians may be counting on.

Overall, seven of the eight major components tracked by Statistics Canada rose in May, but many by less than a month earlier.

Individually, women's clothing slipped 3.2 per cent from last May, fresh vegetables cost 7.1 per cent less, video equipment plunged 13.3 per cent and the price of natural gas fell 16.6 per cent.

Price increases in May included food, up 2.5 per cent; electricity, 5.4 per cent higher; meat, up 6.1 per cent; homeowner replacement costs, up 2.4 per cent, and automobiles, which cost 1.7 per cent more than last year.

On a monthly basis, prices actually slipped 0.1 per cent in May from April, again mostly due to a 3.5 per cent drop in gasoline prices.

Individually, women's clothing, natural gas, automobiles and bakery products were all less expensive in May than they were in April, although there were also increases, particularly in traveller accommodation, fresh fruit, meat and electricity.

Regionally, inflation moderated in all provinces last month. Newfoundland and Labrador continued to post the highest inflation in the country at 2.5 per cent, while Alberta remained the lowest at 0.4 per cent.

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