Elevated inflation levels unlikely to spur Bank of Canada policy change: CIBC

Central bank expected to tolerate upticks in inflation given meagre job growth, tepid wage and cost pressures

TORONTO, Oct. 7, 2014 /CNW/ - With inflation the sole monetary policy target in Canada, investors can't afford to ignore moves in the consumer price index, but a new report from CIBC World Markets dispels investors' concerns that elevated CPI readings will prompt the Bank of Canada to hike interest rates.

Canada's core annual inflation rate of 2.1 per cent in August -- "a hair above" the central bank's 2 per cent target - surprised the market, sparking concern that the Bank of Canada might budge from its dovish stance as the CPI was now at a two-year high. The report, however, notes that this concern is a false alarm on closer analysis of the data and reflection upon the central bank's statements.

"The Bank of Canada will show the same response to a few months of even 2.5 per cent core CPI as it did to a 1 per cent core rate, which is to do nothing at all," says Avey Shenfeld, Chief Economist at CIBC, who authored the report.

Mr. Shenfeld notes that the central bank is taking a "nuanced approach to inflation-targeting" by looking through price hikes to other measures as guides on whether to tighten or not. These other measures include the output gap, unemployment levels, and wage and cost pressures.

"Of late, while both GDP growth and core inflation have beaten Bank of Canada forecasts, employment gains have been meagre, and the jobless rate has been glued to 7 per cent," he says. "That makes it hard to argue, at least for now, that slack is being absorbed, and that the inflation pressures we're seeing can be tied to an overheated economy."

The report notes that uncertainty about how the full employment rate has shifted in recent years has the central bank eyeing both wages and unit labour costs for signs of momentum. "At this point, tame readings on labour costs confirm room for further job gains before inflation pressures will set in," says Mr. Shenfeld.

As well, he points out that it is important to note that annual readings will be measured against unusually low year-ago prices, and there will be catch-up to price hikes that were skipped or delayed in the earlier period, creating momentum in monthly inflation.

"The run-up in prices sounds more like an echo than a new trumpeting call for tighter policy," says Mr. Shenfeld. "An echo, that is, of the very low CPI readings that prevailed in the latter half of 2013."

"The result is inflation looks mild when assessed by the annualized two-year climb since late summer 2013," he says.

The complete CIBC World Markets report is available at: http://research.cibcwm.com/economic_public/download/in_focus_cdn_inflation_oct14.pdf

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SOURCE: CIBC World Markets