March 19, 2010 / 11:12 AM / in 8 years

Core inflation jumps above 2 percent

OTTAWA (Reuters) - Canada’s annual core inflation rate unexpectedly rose above 2 percent in February, adding pressure on the Bank of Canada to raise interest rates later this year and pushing the currency higher.

Core inflation, which excludes volatile items like gasoline, reached 2.1 percent from 2.0 percent in January, pressured primarily by vehicle prices as rebates were lifted, and higher hotel rates due to the Winter Olympics, Statistics Canada said on Friday.

Core CPI jumped 0.7 percent in the month, the biggest increase since November 2008.

“The odds are growing for more aggressive policy tightening in the second half of this year,” said Sal Guatieri, senior economist at BMO Capital Markets.

“It’s not just a one-month aberration. The core measure has consistently surprised on the upside in the past six months, which suggests that the high Canadian dollar is not dampening prices as much as we would anticipate,” he said.

The Bank of Canada targets 2 percent overall inflation but closely watches core CPI, which it considers a more accurate gauge of underlying price pressures.

Markets had predicted the core rate would ease to 1.7 percent annually and climb 0.3 percent in the month, according to a Reuters poll.

Overall inflation climbed 0.4 percent in the month, as expected, and in the 12-month period eased to 1.6 percent from 1.9 percent as gasoline prices rose less sharply. Prices at the pump were 15.3 percent higher than a year earlier, down from 24 percent in January, Statscan said.

The Canadian dollar hit a session high of C$1.01 or 99.01 U.S. cents, up from C$1.0168, or 98.35 U.S. cents just before the report.

The currency has traded at near 20-month highs this week, partly on expectations the Canadian central bank will hike rates before its U.S. counterpart, the Federal Reserve.

Yields on overnight index swaps, which trade based on expectations for the Bank of Canada’s key policy rate, edged higher after the announcement, showing the market saw tightening as more likely than before the data.

Markets suggest there is high possibility the central bank will hike rates by 25 basis points in July..

The Bank of Canada has promised not to raise its key interest rate from a record low until the third quarter, conditional on inflation staying tame.

Its latest forecast is for overall CPI to average 1.6 percent in the first quarter of this year, and for both overall CPI and core inflation to reach its 2 percent target in the third quarter of 2011.

The bank will issue revised forecasts in April.

Six of the eight major components of the CPI registered year-on-year increases in February. The two exceptions were shelter, due to a decline in mortgage interest costs and natural gas prices, and clothing and footwear.

Reporting by Louise Egan, Editing by Chizu Nomiyama

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