Canadian headline inflation remains subdued in June

The Canadian headline consumer price index rose by 1.0% year-over-year in June, following a 0.9% showing in May. The Bank of Canada's core measure (which excludes the eight most volatile components) rose 2.3% relative to June of last year, following a 2.2% increase in May. Across major subcomponents, seven of eight recorded year-over-year price increases.

"Food prices were up 3.4%, led by higher meat prices (+6.6%). Prices for alcoholic beverages and tobacco products (+3.7%) and household operations, furnishing and equipment (+3.1%) also recorded notable year-over-year increases. Shelter costs advanced 1.0%, driven by higher electricity prices. The transportation index (-2.6%) was the only subcomponent to record a decrease, reflecting lower gasoline prices. The June decline marks the eighth consecutive monthly decrease in the index", says TD Economics.

Energy prices continue to weigh on headline inflation. The energy index was down 9.0% on a year-over-year basis, though this negative impact has diminished in recent months along with the recent stabilization in commodity markets through June.

On a regional basis, consumer prices rose in all provinces with the exception of Prince Edward Island (-0.1% Y/Y). Statistics Canada noted that fuel oil prices declined 21.6% in P.E.I. in June, steeper than the national average. What's more, the basket weight of fuel oil is significantly larger in P.E.I.'s consumer price index relative to the rest of Canada. Saskatchewan (+1.9%) and Alberta (+1.7%) recorded the strongest June readings.

Key Implications

Headline inflation remained weak in June as lower energy prices continue to weigh on overall CPI inflation. However, attention has recently shifted to the underperforming Canadian economy. It Is believed  that, Canadian real GDP had likely contracted modestly in the first half of 2015 as the hit from low oil prices and weaker-than-expected global growth took its toll on the Canadian economy. In yesterday's Monetary Policy Report, the Bank of Canada reiterated this message in its forecast. As a result, the Bank also estimates that excess capacity had increased markedly, translating to additional downward pressure on inflation.

While the traditional core inflation measure remains above the 2% mark, it has been boosted by a lower Canadian dollar. Indeed, it is estimated that, exchange rate pass-through effects from a weaker Loonie are currently raising core inflation by 0.4 to 0.6 percentage points. As the forecast assumes that the Canadian dollar will move lower over the remainder of 2015, these pass-through effects will likely persist, underlying trend inflation is operating in the 1.5%-1.7% range - consistent with an economy performing below full capacity.

Following yesterday's rate cut, it is expected that, the Bank of Canada to remain on the sidelines until mid-2017. The weak economic performance in 2015 and widening output gap have pushed back expectations for any future hiking cycle, notes TD Economics.