Inflation has likely slowed, but economists warn we’re not out of the woods yet

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Economists at Canada’s biggest banks believe the country’s inflation rate cooled for the second month in a row in August, with consensus expectations from Bloomberg surveys for Sept. 20’s CPI announcement running at 7.3 per cent, down from the 7.6 per cent annualized pace reported in July.

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The anticipated decline comes as global supply chain disruptions are beginning to ease and lower commodity prices are working to cool the consumer price index, the economy’s main gauge on the growth of the cost of goods. Those easing pressures have led the Royal Bank of Canada’s economics team to conclude that the recent burst of inflation likely topped out at 8.1 per cent in June.

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But the same team warned that, beneath the headline figure, some core prices are still bubbling up and will not likely peak until later this year.

“Food price growth likely accelerated again,” wrote economists Nathan Janzen and Claire Fan in a Sept. 16 RBC Economics note. “And we look for the rate excluding food and energy products to hold steady at 5.5 per cent. Alongside this, the Bank of Canada’s preferred core inflation measures also likely remained elevated.”

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The Bank of Montreal’s chief economist, Douglas Porter, echoed this sentiment, though warned that like the U.S., which had recently reported a hotter than expected annualized rate of 8.3 per cent in August and saw core price pressures rise, Canada should “beware the core trends.”

“A weaker currency could further fuel consumer goods and imported food prices,” Porter wrote in a note to clients late last week. “To this stage, Canadian grocery prices have actually been less fiery than their U.S. counterparts (9.9 per cent year-over-year compared to 13.5 per cent year-over-year).”

Comparing Canada to its neighbour south of the border, Canadian Imperial Bank of Commerce chief economist Avery Shenfeld noted that the difference in how shelter costs are treated in Canadian inflation figures should have cost pressures, excluding food and energy, falling faster than the U.S.

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However, Shenfeld also expects that since the price of goods excluding food and energy is driven upward by some supply chain issues and domestically driven services inflation is likely to peak in the second quarter of next year, core inflation won’t dip below the three per cent mark until the second half of next year.

Despite the common refrain among economists that high inflation is not here to stay, there remain risks on the horizon. In his note, Shenfeld raised concerns of a wage-price spiral, a trend where workers seek higher wages to keep up with rising living costs, a pattern that can cause high inflation to become entrenched. Shenfeld specifically pointed to the recent success U.S. railway unions had in negotiating new deals and averting a strike as an example of such upward pressure on wages. Though the gains may not send unit labour costs soaring as they have in the past, Shenfeld said they still pose an inflation risk that economists and central banks are keeping an eye on.

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“Still, the concerns are that this is a five-year package averaging close to five per cent per year in wage hikes, partly backdated, but with a couple of years to run,” Shenfeld wrote. “That raises concerns that businesses are starting to assume that inflation will persist at elevated levels, baking in cost increases ahead that will make it tougher to winnow inflation down.”

Bank of Canada governor Tiff Macklem raised similar concerns during a July 14 video session hosted by the Canadian Federation of Independent Business. Macklem told the small business community not to plan for continued high inflation or to “build that into longer-term contracts” or labour deals.

The comments sparked backlash against the head of the central bank, with some union groups arguing that Macklem should “stay in his own lane.” But Shenfeld wrote that he believed Macklem was not telling workers to avoid asking for raises.

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“What he likely meant to say was that employers shouldn’t simply assume that we’ll have elevated inflation beyond the next few quarters,” Shenfeld wrote. “They should therefore be careful about locking themselves into pay gains, particularly in multi-year contracts, under the assumption that they will be able to pass them on in large price hikes.”

While the conversation has largely focused on how wages could lift inflation, Shenfeld said it was more likely that the flip side was occurring: high inflation prompts workers to ask for higher wages or to seek higher-paying jobs to stay ahead of rising costs.

“So the key to avoiding a self-sustaining price-wage-price spiral starts with cooling the economy, getting inflation down and then letting that lower inflation environment influence wage gains,” Shenfeld wrote. “It’s not about telling workers that they shouldn’t try to keep up with the cost of living.”

Statistics Canada is expected to release August CPI data on Tuesday at 8:30 a.m. EST.

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