Canada: Sub-2% Inflation in September All but Locks in a 50-Basis Point Rate Cut in October

Well, it’s official: inflation has not just returned to the Bank of Canada’s two-percent target, but has now crashed through it. Goods prices have led the move lower, declining on a year-over-year basis for the second consecutive month (-1.0% y/y) (graph 1). Falling gasoline prices explain a good part of the deflation in goods (-10.7%), while food prices edged up a tick to 2.8% in September. Excluding food and energy, goods price gains have been in negative territory on a year-over-year basis since June, if just barely. At the same time, services inflation also slowed but remained stickier at 4.0%.

Examined differently, shelter inflation excluding energy continues to make by far the largest contribution to headline inflation (graph 2). While growth in the cost of rented accommodation continued to lead the charge higher, it fell back to a still-elevated 8.0% y/y in September. We expect more of this going forward as the pace of asking rent growth has cooled considerably in recent months. Meanwhile, the weightier owned accommodation inflation slowed to 5.1% in the month, the slowest year-over-year gain since August 2023 and October 2021 before that. 

Looking to underlying inflation, the Bank of Canada’s preferred measures of core year-over-year price growth—CPI median and trimmed mean—were unchanged from August (averaging 2.4% y/y), managing to stay under 3% for the sixth consecutive month (graph 3). The same is true for the more universally referenced total CPI inflation excluding food and energy in September (2.4%). However, the Bank’s former preferred measure of core inflation—CPIX (CPI excluding the 8 most volatile components & indirect taxes)—inched a tick higher to 1.6%. But maybe more importantly, the 3-month moving averages of these seasonally adjusted series slowed further in September, suggesting that the slowing trend in inflationary momentum is the Bank of Canada’s friend.

Regardless of the measure you look at, inflation continues to show diminishing pressure on price gains in Canada. Much of this relates to broader global forces on goods prices, but higher interest rates are also weighing on domestic demand for both goods and services. The Bank of Canada’s recent business and consumer surveys showed as much. And while the better-than-expected jobs data for September provided mixed messages on the state of the Canadian labour market, real GDP growth continues to track well below the Bank’s most recent forecast (around 1.2% annualized versus 2.8%, respectively) and the unemployment rate remains elevated. This points to ongoing slack in the economy. As such, we think the BoC is likely to cut the policy rate by 50 basis points at its October meeting. After that, the Bank will probably return to its gradual pace of 25 basis point rate cuts, keeping the option open to accelerate the pace of cuts if the economy slows more quickly.