Rumours of the Deaths of the Canadian Consumer and Inflation Have Been Greatly Exaggerated

• Retail sales point to strong consumption in Q1 GDP

• Real household income after energy spending is usually resilient in energy shocks

• Producer prices continue to point to firmer coming CPI inflation even without energy shock

• Builder prices point to upward revision in CPI

• There should be tighter limits on the BoC’s data dependency this time

The Canadian consumer is charging back in Q1 as producer prices point to upside risk facing CPI inflation. Neither the Canadian consumer nor inflation risk is dead in Canada before or after the oil shock.

Retail sales volumes are tracking just shy of a 7% q/q jump in Q1 over Q4 at a seasonally adjusted and annualized pace. It could be the strongest quarter since 2024H2.

This matters because of the strong connection between retail sales volumes and consumer spending on goods within GDP accounts (chart 1). Q1 is looking rather explosive. That could be part of the narrative behind stronger final domestic demand than GDP growth once again.

This Q1 tracking of retail volumes is based on what we know from Q4, plus a 1% m/m SA jump in sales volumes during January and a significant part of the preliminary 0.9% m/m SA guidance for February retail sales values showing up as higher volumes. March is assumed flat in the calculations solely to place emphasis upon the known factors thus far. There are bidirectional risks to this preliminary estimate.

January’s 1% gain in volumes had significant breadth to it (chart 2). Vehicles were the biggest driver of the gain followed closely by general merchandise. 

There is never any colour provided by Statcan on its initial guidance for the next month (February in this case) but it’s set against a dip in vehicle sales which might imply a combination of higher prices and strength in sales ex-autos were the drivers of the preliminary 0.9% lift.

A caution, however, is that retail sales do not include any services spending in Canada unlike the US that at least includes eating/drinking establishments (aka bars/restaurants). Those bar and restaurant figures are in a separate, lagging report in Canada. But anything you're spending in Q1 on hotels, airfare, concerts, sporting events, financial services, movies, etc is not included in Canadian retail sales.

The ability to track services spending is limited. It could either add to or subtract from the momentum shown in the first chart since services account for 57% of total Canadian consumer spending. Some Q1 readings like flights (chart 3) and restaurant bookings (chart 4) are looking solid while bars/restaurants only go to December so far (chart 5).

Still, if tracking of goods consumption in Q1 is anywhere close to the mark, then the 43% weight on goods in total real consumption would still point to a large 2–3%+ weighted contribution to growth in total consumption.

But it’s backward looking data amid an evolving oil shock that’s going to crush the consumer, right? Maybe, but that’s much less clear than the knee jerk arguments out there. The BoC expressed concern about real incomes going forward, yet as chart 6 shows, real disposable income after spending on energy tends to rise in positive oil shocks—not fall. Wages may adjust, the energy patch could hire and pay more and it’s not the job of the BoC to fuss about what regions in which this is happening, shareholder distributions can support incomes, and behaviour can change. All of that could leave something left over to continue driving consumption. If the job market tanks then it’s a downside risk but I’d like more than two lousy months of evidence for a wonky survey that may have been slammed by weather and the flu, and it’s wages that will carry the day for the vast overwhelming majority of consumers anyway. Wages in a country driven significantly by collective bargaining exercises that invoke sticky gains.

Canadian producer prices posted another gain in February with industrial prices up 0.4%, raw materials prices up 0.6%. Just wait until March. Chart 7 shows that industrial prices continue to point toward future upside risk to core CPI. Unless that’s totally eaten by selling down old inventories for a really long time and/or on profit margins, then it points to the hawkish reemergence from a core inflation soft patch. Time will tell, but the historical connections suggest it’s only a matter of time.

Also note that Canadian new home prices might motivate a tiny upward revision to homeowner replacement cost within February CPI. Statcan's CPI for February initially showed replacement cost of housing down before we got this morning's update showing it increased.

So what do you do if you’re the BoC? It’s all about risk management. There is a bit of time, but don’t assume that you have a lot. Don’t wait until you’re staring straight in the whites of the eyes of another inflation shock. Don’t wait until it’s fully evident in headline and core inflation readings. If—and emphasis upon if—this is a durable energy shock for a commodity-dependent economy and the oil futures curve is anywhere close to being correct over 2026–27, then deal with the uncertainty by staggering the policy rate adjustments. There is still time ahead of the next 2–3 meetings, but if energy markets don’t abruptly cool off, then we should all be open-minded toward insurance hikes, over waiting until its lights out. Get control of the bond market in terms of the belly and long-end parts of the term structure. My worry about Governor Macklem is that he waits and waits and waits and then we’re back in another devastating inflation problem with political consequences for his former partner at the BoC. Insurance hikes leave open the door to stop and/or reverse if needed while also leaving open the door toward doing more while lessening the risk of a massive catch-up overshoot on the policy rate like the last time. That, in my opinion, would be the bigger sin if repeated by the BoC and the final nail in Macklem’s legacy as the end of his term approaches next year.