Canada's Annual Core Inflation Rate in February Rises Unexpectedly

The February consumer price report rose a greater than expected 0.4% (UA) in the month. Expectations going into the report were for an increase of 0.3%. This did not prevent the year-over-year rate from dropping to just 1.6% from 1.9% in January. Expectations had been for a drop to 1.4%. There was an even greater upward surprise on a core basis where the index rose a sizeable 0.7% (UA), which compared to an expected increase of 0.3%. This sent the year-over-year rate up to 2.1% from 2.0% in January. Market expectations had been for this annual rate to drop to 1.7%.

The upward surprise on both the overall and core basis was concentrated in traveler services (includes both traveler accommodation and tours), which rose almost 18% in the month. This increase added 0.4 percentage points to the overall increase in the CPI (and was closer to a 0.5 percentage point hit on the core measure). This jump in prices greatly reflected the effect of the Vancouver Whistler Winter Olympics where hotel prices rose sharply during the event. To the extent that this is true, the upward pressure should be for the most part reversed in March.

The unexpected jump in the February year-over-year core inflation rate to 2.1% will raise some concerns at the Bank of Canada because the jump coincides with some robust January data released earlier this week that implied growth in the first quarter of 2010 could be as strong as the 5.0% increase recorded in the fourth quarter of 2009. As well, the February labour market report unexpectedly showed the unemployment rate dropping to 8.2%; however, tempering these concerns is the fact that most of the upward surprise was concentrated in a single component, traveler services, with the pressure likely to be unwound in March. An eventual reversal of these pressures will not prevent the Bank of Canada from pushing the overnight rate higher from its current 0.25% although it will allow the pace of tightening to remain gradual. Assuming the March data confirm that the price pressure is transitory, we expect that the central bank will adhere to its conditional commitment of holding the overnight rate unchanged until the end of the second quarter yet raising it 100 basis points during the second half of this year.

RBC Financial Group
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The statements and statistics contained herein have been prepared by the Economics Department of RBC Financial Group based on information from sources considered to be reliable. We make no representation or warranty, express or implied, as to its accuracy or completeness. This report is for the information of investors and business persons and does not constitute an offer to sell or a solicitation to buy securities.