BOC Drew Attention to Rise in Core Inflation

BOC remained positive about the economic outlook despite recent softer data. The members viewed that weakness in the job market was temporary. Meanwhile, they were more attentive to the rise in core inflation. We believe the plan of QE tapering remains intact while the central bank is still on the way to hike the policy rate in late-2022.

There were a few changes in the policy statement. On economic developments, policymakers acknowledged that domestic economic developments “have been broadly in line with the outlook in the April Monetary Policy Report (MPR)”. They also acknowledged the “renewed lockdowns associated with the third wave are dampening economic activity in the second quarter”, noting these were largely anticipated. These reveal that the members have looked through the uptick in the unemployment rate and the weaker-than-expected GDP data in 1Q21 released after the April meeting.

On a positive note, the central bank acknowledged the accelerated pace of vaccination. As suggested, “with vaccinations proceeding at a faster pace, and provincial containment restrictions on an easing path over the summer, the Canadian economy is expected to rebound strongly, led by consumer spending”.

Concerning rising inflation, the members attributed the increase in headline CPI to “around the top of the 1-3 percent inflation-control range” to “base-year effects and much stronger gasoline prices”. They, however, drew attention to core CPI. They noted that the rise in core measures was due “primarily to temporary factors and base year effects, but by much less than CPI inflation”. The members suggested that “CPI inflation will likely remain near 3 percent through the summer, it is expected to ease later in the year, as base-year effects diminish and excess capacity continues to exert downward pressure”. We believe the members were surprised by the strength in core inflation. The word “primarily” reveals that the rise in core CPI could also be driven by more persistent factors. This should support QE tapering and monetary policy tightening.