The BoC Shouldn’t Even Be Thinking About Thinking About When to Cut

• Core inflation remains too warm across all measures

• Breadth of price increases continues to rise

• The BoC should remain disinclined to ease

• Canadian CPI, m/m % NSA, // y/y %, May:
• Actual: 0.6 / 1.7
• Scotia: 0.4 / 1.6
• Consensus: 0.6 / 1.7
• Prior: -0.1 / 1.7
• Trimmed mean CPI: 2.84% m/m SAAR
• Weighted median CPI: 2.22% m/m SAAR

Core inflation remains too warm to be contemplating rate cuts (chart 1). Ignore the headline CPI reading that continues to be weighed down by the elimination of the consumer portion of the carbon tax; it’s below the 2% target, but the tax distortion makes that meaningless. The bigger issue here is that underlying price pressures remain too high and rising breadth combines to signal that inflation has yet to be licked. To twist a phrase, the Bank of Canada shouldn’t even be thinking about thinking about when to cut rates. Let’s see prospects for a trade and security deal, a Fall budget, and further data first.

The average of the BoC’s two preferred core inflation readings landed at 2½% m/m at a seasonally adjusted and annualized rate in May. Trimmed mean was 2.8% and weighted median was 2.2%. After 4½% m/m SAAR readings in April, one might have reasonably expected softer readings in May off of high base effects. That didn’t convincingly happen.

The trend remains too warm. On a three-month moving average basis, both of the preferred core readings are sitting at 3% m/m SAAR. As chart 2 shows, this is not just a flash in the pan. It has been going on for well over a year as evidenced by a persistent trend of m/m SAAR readings that have been too warm. Bah, just ignore that. 

Think these measures overstate core inflation? Macklem has said so, while providing no evidence that they do so in serially correlated and meaningful fashion over time. So, should we prefer other simpler core measures? Ok then, chart 3 shows that traditional core CPI has been even hotter at 3.2% m/m SAAR in May, 4% in April, 0% in March, 5.6% in February, 3.2% in January. Bah, ignore that too.

Furthermore, inflation is fanning out once again. The breadth of rising price pressures continues to increase (chart 4). This broadening breadth has been noted by the BoC and us and should continue to concern Governing Council. Didn’t see that, didn’t hear it, ignore that.

And so there’s no underlying inflation pressure and the BoC has achieved its goal of squishing out well above-target underlying inflation that favourably positions it to address forward looking risks. Unless you look at the evidence. Meh, why let facts get in the way of policy leanings.

Furthermore, traditional core CPI inflation would be hotter yet if not distorted by artificially low seasonal adjustment factors (chart 5). May’s SA was the second lowest SA factor on record. The SA factors for months of May in 2023 and 2024 were also among the lowest on record. Seasonally adjusted m/m SA inflation could be several tenths higher at more centrist SA factors. SA factors are supposed to take seasonally unadjusted changes and adjust them for seasonal influences in order to tell what is really going on absent price changes that can be common at certain times of the year especially in a country like Canada. Yet the SA factors are doing more than that now because of the way they are calculated with a strong emphasis on the seasonality patterns of recent years. This recency bias in how they are calculated distorts the measures and artificially tamps down reported price pressures unless you believe that in 2025 we still have the same seasonality that existing in the depths of the pandemic and immediate aftermath when there were rolling openings and closings and distorting policy announcements. I don’t.

What’s driving the pressures? Chart 6 shows that service inflation has picked up. Chart 7 shows goods inflation also did. Be careful with these price subindices since they do not exclude tax effects which is an especially important distortion for headline goods prices due to the carbon tax cut and aftermath. The BoC’s preferred core inflation gauges exclude the direct effects of tax changes like carbon taxes, sales taxes and tariffs and only capture indirect effects.

Charts 8–17 show individual components. The recreation/education/reading category (chart 8) once again showed the highest drivers were due to the possible shift of consumption toward domestic sources like travel, recreational services, toys and games, and other entertainment. Why? The C$ depreciation since 2020, economic uncertainty that trims higher cost discretionary spending, and the protest vote against the Trump administration’s policies against Canada.

Shelter inflation has ebbed, but much of that is carbon tax related through the effect on home heating. Still, rent inflation has ebbed and so have builder prices given that Canada captures housing’s direct influences through replacement cost of housing derived from builder price gauges, as opposed to the US use of OER.

Transportation costs bounced back from the carbon tax effect, but also because of higher vehicle prices especially electric vehicles. That may be a tariff effect.

Charts 18–19 break down the basket in m/m seasonally unadjusted terms and weighted contributions by category to m/m inflation. Charts 20–21 do likewise for y/y measures.

Chart 22 shows what was included in the trimmed mean basket in m/m terms.