4 Min Read
OTTAWA (Reuters) - Annual inflation in Canada slowed more sharply than expected in May, to 1.2 percent, due partly to cheaper fuel prices, giving the central bank another reason to refrain from raising interest rates any time soon.
The rise in the consumer price index (CPI) declined from 2 percent in April to its lowest level since June 2010, and was below the 1.5 percent median forecast of analysts in a Reuters poll. Gasoline prices tumbled on a year-on-year basis for the first time in almost two years, according to Statistics Canada data on Friday.
But the closely watched core inflation rate, a better measure of underlying price trends because it excludes eight volatile items, stayed closer to the Bank of Canada's 2 percent target, easing to 1.8 percent in May from 2.1 percent in the previous month.
Excluding energy only, the index rose 1.7 percent on the year, compared with 2.1 percent in April, Statscan said.
Canada's central bank is alone among the world's advanced economies in talking about interest rate hikes - Governor Mark Carney repeated that message on Thursday - but analysts say its case has weakened considerably.
"The bank's got much bigger items on their plate than inflation; I don't think inflation is crowding the top of anybody's worry list at this point," said Doug Porter, deputy chief economist at BMO Capital Markets.
"So I don't think it has a big effect on the bank, but at the very least it just sort of reinforces the message that there's not any rush for the bank to act on its tightening bias."
In a speech on Thursday, Carney stuck to the message he has been giving since April - that a rate hike may be in the works after the bank has held the benchmark lending rate at 1 percent since September 2010.
But many doubt he is in any rush as the European debt crisis threatens to slow the pace of growth, and new government measures introduced on Thursday to curb heavy household borrowing could substitute for tighter monetary policy.
Analysts surveyed by Reuters in late May predicted the Bank of Canada would resume raising rates in the first quarter of 2013. By contrast, markets are pricing in the chance of a rate cut later this year. <CA/POLL>
Overnight index swaps, which trade based on expectations for the central bank's key policy rate, showed that traders slightly increased bets on a rate cut after the inflation data.
But economists rule out any such stimulus unless there is a major shock from Europe. Inflation could bounce back up in June because of a big price drop in that month last year, and core inflation remains sticky, they cautioned.
"Interest rate cuts by the bank are really not on the table," said David Tulk, chief Canada macro strategist at TD Securities.
"(Core inflation) is consistent with a narrowing output gap and should serve as a reminder to the market that pricing in an outright cut in the overnight rate will end in disappointment," he said.
Even so, the Canadian dollar briefly weakened to a session low of C$1.0301 to the U.S. dollar, or 97.08 U.S. cents just after the data, from around C$1.0285 just before the data's release. It later recovered.
The Bank of Canada sees total CPI inflation below 2 percent in the short term and core inflation remaining at about 2 percent. It will update its projections on July 18.
The CPI edged down 0.1 percent in May from April and core CPI climbed 0.2 percent. Both had risen 0.4 percent in April.
Gasoline prices fell 2.3 percent from May 2011. Other reasons for the lower inflation were a decline in clothing prices and slower price gains in passenger vehicles.
Additional reporting by Alex Paterson in Ottawa; Allison Martell, Claire Sibonney and Euan Rocha in Toronto; Editing by Jeffrey Hodgson; and Peter Galloway