February 19, 2008 / 12:05 PM / in 10 years

January inflation slows, rate cuts on horizon

OTTAWA (Reuters) - Canada’s inflation rate slowed in January as discounts on vehicle prices offset gasoline price hikes, Statistics Canada said on Tuesday in a report that seemed to leave no obstacles in the Bank of Canada’s path as it prepares to cut interest rates in March.

Statistics Canada also reported on Tuesday that wholesale trade in December fell 2.9 percent, citing weakness in the auto sector, which is highly vulnerable to the U.S. slowdown.

The two reports provide fodder for the view that the central bank may cut rates by half a percentage point on March 4 to fortify Canada’s economy against fallout from a possible U.S. recession.

“It does open the door for something a little more aggressive than 25 (basis point rate cut), maybe even toward the 50 (basis points) that we’re looking for,” said Craig Wright, chief economist at Royal Bank of Canada.

Canada has none of the inflation concerns plaguing the United States or Europe. Its annual inflation rate slowed in January to 2.2 percent from 2.4 percent in December, less than half the U.S. inflation rate in November. A cut in the federal sales tax and a strong currency brought some price decreases, especially for vehicles.

The core inflation rate, which ignores tax changes and volatile items like gasoline, fell to 1.4 percent, its lowest since July 2005.

“The core (inflation rate) is nicely below the Bank of Canada’s worry level. It points to a path of rate cuts coming up for the Bank of Canada,” said Steve Butler, director of foreign exchange at Scotia Capital.

The bank targets core inflation of 2 percent.

On a month-on-month basis, the two usual measures of consumer prices in January were in line with analysts’ forecasts. The all-items index declined 0.2 percent from December, and the core index rose 0.1 percent.

The Canadian dollar fell against the U.S. dollar after the report, trading at C$1.0045 to the greenback, or 99.56 U.S. cents, compared with C$1.0020 to the U.S. dollar, or 99.80 U.S. cents at Monday’s close. Bonds also fell.

RATE CUTS LIKELY

The central bank cut its key overnight rate in December and January by a quarter point each time, leaving it at 4 percent. And newly-minted Bank of Canada Governor Mark Carney signaled on Monday there are more cuts to come.

Lower-than-expected inflation makes it easier for the Bank of Canada to cut rates without fear of fueling price hikes.

Eric Lascelles, chief economics and rates strategist at TD Securities, said the report actually eased fears that inflation would dip too low for the bank’s comfort. On a seasonally adjusted basis, total CPI rose 0.6 percent and core CPI rose 0.2 percent, he said.

“These numbers are actually a little bit toasty in some ways,” Lascelles said. “For January anyhow, inflation isn’t quite as dismal as it’s been for the last several months.”

As exports sag in the wake of the U.S. housing crisis, eight out of 12 primary securities dealers surveyed by Reuters on Tuesday predict that Carney’s first move would be to slash 50 basis points off the benchmark rate to prop up the economy. The other four expect a 25-basis-point cut.

A majority expect the bank to cut rates again in April and June, by 25 basis points each time. By the end of 2008, forecasts for the overnight rate ranged from a low of 2.50 percent to a high of 3.50 percent.

Upward pressure on consumer prices in the year to January came primarily from gasoline prices and mortgage interest costs, while the cost of buying or leasing vehicles fell.

The government cut the goods and services tax (GST) to 5 percent from 6 percent, effective January 1, which is expected to moderate the rise in CPI by 0.6 percent.

In a separate report, Statscan said the value of monthly wholesale trade fell to its lowest since November 2006, against market expectations of a 0.6 percent drop.

While the auto and forestry sectors appear headed for recession, most economists believe Canada’s economy will continue to grow in 2008.

Additional reporting by John McCrank in Toronto; Editing by Bernadette Baum and Peter Galloway

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