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March 16, 2022

Inflation rate hits new three-decade high as price pressures broaden

Canada’s inflation rate hit a new three-decade high in February as consumers faced an onslaught of price hikes, adding pressure on the Bank of Canada to tame the situation with a speedy course of policy tightening.

The Consumer Price Index (CPI) rose 5.7 per cent in February from a year earlier, up from 5.1 per cent in January, Statistics Canada said Wednesday. That was the highest inflation rate since August, 1991, and it marked the 11th consecutive month that inflation has surpassed the Bank of Canada’s target range of 1 per cent to 3 per cent.

Households are feeling the pinch on several fronts. Shelter costs rose 6.6 per cent for the largest annual increase since 1983. Groceries rose 7.4 per cent, the most since 2009. And gas prices jumped 6.9 per cent in a single month.

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The average of the central bank’s core measures of inflation – which strip out volatile components and give a better sense of underlying price pressures – rose to 3.5 per cent, also the highest since 1991.

Around two-thirds of the goods and services that make up the CPI basket are experiencing inflation of more than 3 per cent, showing how sticker shock is getting tougher to avoid.

“If it feels like everything is getting more expensive, it’s because it is,” Royce Mendes, head of macro strategy at Desjardins Securities, said in a note to clients.

Central bankers are now trying to tamp down inflation. The U.S. Federal Reserve joined the Bank of Canada on Wednesday in raising its benchmark interest rate from record lows and for the first time since 2018. Both central banks are expected to raise borrowing costs several times this year and next.

Throughout the pandemic, central bankers have consistently underestimated the scale and duration of inflation. The Bank of Canada in January projected that inflation rates would average 5.1 per cent in the first quarter of 2022 – a forecast that is already short of reality. The U.S. inflation rate hit a 40-year high of 7.9 per cent in February.

The latest threat to consumer prices is the Russia-Ukraine war, which has led to surging costs of wheat, gasoline, fertilizer and other products, on fears of supply shortages. There is, however, very little that central bankers can do to calm volatility in global commodity markets, making the situation even more complicated.

Several analysts said Wednesday that Canada’s inflation rate could reach – or exceed – 6 per cent in short order.

“Whether it’s a supply or demand shock is becoming less and less consequential,” said Jean-François Perrault, chief economist at Bank of Nova Scotia. The central bank is “behind the curve” on rate hikes “and they need to move aggressively to try and signal that they’re very serious about bringing inflation back to target.”

In a recent speech, Bank of Canada Governor Tiff Macklem would not rule out a rate hike of 50 basis points later this year. (A basis point is 1/100th of a percentage point.) A hike of that magnitude has not happened since 2000.

A key concern is that consumers, who are sensitive to price hikes at gas pumps and supermarkets, come to think that steep inflation is a long-term reality.

Inflation can be self-fulfilling, in that companies set prices and workers negotiate wages in anticipation of expected costs. Their expectations of inflation over the next two years have risen substantially, but remain “well anchored” over a five-year horizon, the central bank has said.

Not everyone agrees. Scotiabank said Tuesday that inflation expectations have already become unmoored. “This recent de-anchoring of expectations means that the bank’s monetary policy will need to be more aggressive to bring inflation back to target,” read the report, which was co-written by a former research director at the Bank of Canada.

Scotiabank estimates the central bank’s policy rate – now at 0.5 per cent – will end the year at 2.5 per cent, which is the quickest pace of rate hikes that a major bank is projecting.

That would heap pressure on a Canadian consumer that’s loaded up on debt. The household debt burden – more formally known as the ratio of credit market debt to disposable income – rose to 186 per cent in the fourth quarter, the highest on record. The pandemic debt surge has been entirely driven by demand for residential mortgages.

Mr. Perrault said Canadians can handle a quick pace of rate hikes. The economy is growing quickly, highlighted by the addition of nearly 340,000 jobs in February, which took the employment rate back to pre-pandemic levels.

“Rates are rising in a remarkably strong growth environment,” he said. “To us, that means households are going to have much greater flexibility and greater ability to manage these higher rates than would be the case if inflation was going up and growth was not there.”

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