Today’s hotter-than-expected inflation report hasn’t convinced market participants that the Bank of Canada will be forced to hike interest rates any time soon.
Implied interest rate probabilities in overnight index swap markets suggest a near-zero per cent chance of any change in the bank’s overnight rate at its next policy meeting on July 15. Market bets for a rate hike then marginally increase through the rest of the year. But by the bank’s last policy meeting on December 9, there’s still not much more than a 50 per cent probability the bank would have moved, according to Bloomberg data. The market is priced for an overnight rate of 2.41 per cent on Dec. 9, which is down slightly from 2.45 per cent last week. The current rate is 2.25 per cent.
Canada’s annual inflation rate in May accelerated more than expected to 3.2%, a 29-month high, data showed on Monday, as the impact of higher crude oil prices due to the Iran conflict continued to filter through gasoline costs. Analysts polled by Reuters had estimated the annual inflation rate to touch 3% in May, up from 2.8% in April.
The prices, however, are already showing a major reversal in June after an interim peace deal was signed between the United States and Iran last week, which, analysts have said, could help ease the headline number in June.
The monthly inflation rate rose to 1% in May, exceeding expectations of 0.8% rise. This is the highest monthly rise in 15 months.
Here’s how economists are reacting in written commentaries this morning:
Andrew Grantham, executive director and senior economist, CIBC Capital Markets
“Canadian inflation accelerated again in May but, with oil and gasoline prices now well off their earlier highs, today’s figure should mark the peak. ... Core measures of inflation may accelerate modestly further in the months ahead, as airfares over the peak summer travel months pick up even more of the fuel-driven price increases, and as the FIFA World Cup temporarily boosts prices in areas such as hotels and spectator sports. However, the low starting point for core measures of inflation on a year-over-year basis should enable the Bank of Canada to look through any near-term acceleration and we continue to see interest rates on hold throughout the remainder of 2026.”
Royce Mendes, managing director and head of macro strategy, Desjardins Securities
“Headline inflation surged past 3% in May, but core measures remained tame. ... Canadian central bankers shouldn’t get too fussed about the acceleration in total inflation. Measures of underlying inflation remain very stable around the Bank of Canada’s 2% target. Moreover, with global oil prices falling in recent weeks, the spike in gasoline and jet fuel prices has begun to reverse. Markets are little changed following the CPI release.”
Douglas Porter, chief economist, BMO Capital Markets
“After a string of lower-than-expected core results in previous months, May’s heavy headline reading stings somewhat. However, the reality is that core remains essentially right on target, and the recent big pullback in oil prices—if sustained—will deliver some important relief on headline readings in coming months. Still, the persistence of food inflation is a significant thorn, and we have to rate this one as a mild disappointment overall—it’s never good news to see the overall inflation rate track above 3%, even if it is for one month only."
Bradley Saunders, North America economist, Capital Economics
“The good news for the Bank is that these pockets of strength were not reflective of the broader inflationary picture. Shelter prices fell 0.1% on the month, while prices of goods such as clothing were little changed, likely due to lower discretionary spending. Accordingly, an average of the Bank’s preferred CPI-trim and CPI-median measures, which omit the largest movers in either direction, rose by 0.20% m/m. While that took the three-month annualised up to a six-month high of 2.3%, the annual rate stayed at a roughly target-consistent 2.1%. With the worst of the oil price surge now seemingly behind us, the Bank will be hoping that sizeable second-round effects have been averted.”
Leslie Preston, managing director and senior economist, TD Economics
“Oil prices are down significantly since a tentative peace deal between Iran and the U.S. was reached, and gasoline prices have been following suit. We expect May to mark the peak for headline inflation this year. As expected, we are seeing somewhat higher core inflation in recent months, but we don’t expect it to rise to a level that raises alarm bellow for the Bank of Canada. Apart from energy costs and some emerging tech price pressures inflation remains very well behaved in Canada, as a relatively soft demand backdrop leans against sellers raising prices. We expect this to keep the Bank of Canada on the sidelines for quite some time. Bond markets yields are so far little moved by today’s numbers.”
David Rosenberg, founder of Rosenberg Research
“Canada’s CPI posted a rare upside surprise, with the headline number printing +1.0% (not seasonally adjusted) month-over-month, which took the inflation rate up to +3.2% YoY in May from +2.8% in April (consensus was +0.8% on the MoM change and +3.0 year-over-year). At the same time, the key “core” rates of inflation like the median stayed at +2.1% on a YoY basis, and the “trimmed mean” metric remained at +2.0% — tied for a five-year low and right in line with target — and these are the figures most important for the Bank of Canada (both underlying measures edging up a non-threatening +0.2% MoM apiece). While there has been little reaction in the FX market, the front end of the Canada curve has ticked up a bit in terms of yield, but nothing too concerning. ... Strip out red-hot energy costs (+22% on a YoY basis — a four-year high; gasoline has soared a near-record +33%) and Canadian inflation is running at +2.1%. A year ago? Try +2.7%. The core inflation number excluding the effects of indirect taxes — this provides a clear disinflation picture — is now +1.6% year-over-year versus +2.6% this time in 2025. The bottom line is that there was not really much here for the BoC hawks or bond bears to be fretting about."
Veronica Clark, economist with Citi
“Details like shelter inflation continue to slow and importantly, core measures remain modest around target (some a bit above 2%, some a bit below). We continue to expect that now-falling energy prices and updated forecasts showing more persistent excess supply in the July MPR will lead to a more dovish shift in communications at that meeting. We continue to expect two more 25bp rate cuts to 1.75%.”
Derek Holt, vice-president, Scotiabank Economics
“We now have three reports that provide convincing evidence that a temporary soft patch on underlying inflation is being left behind. Core inflation measures picked up in May and their three-month moving averages are restoring above-2% momentum in price pressures at the margin. ... Multiple other central bank are either hiking or talking about hiking—except the BoC. Yet Canada is the prime beneficiary of a commodity surge. The Bank of Canada has passively eased by allowing its inflation-adjusted policy rate to arguably go negative in relation to expected inflation. Inflation expectations are likely to move higher in the BoC’s July business and consumer surveys based upon samples already collected and they have been elevated across all time horizons. OSFI’s easing of bank capital rules is a partial rate equivalence that adds to easier conditions.
Scotiabank Economics stands by its call for higher borrowing costs later this year. Unlike the Fed and Bank of England, the BoC’s nominal policy rate is at the bottom end of the neutral rate range. It’s time for taking out some insurance against an emerging inflation challenge. My fear is that the BoC will wait too late again and do so straight into the year-end 5-year review of its remit and the end of Governor Macklem’s term in 2027."
David Doyle, head of economics at Macquarie Group
“Subdued core inflationary pressures through May have been depressed by costs related to homeownership, reflecting subdued housing market activity. Looking ahead, we anticipate some firming as the output gap shrinks amidst economic improvement. Despite this, the ongoing subdued core figures lead us to push out the timing of our anticipated BoC rate hike cycle. We push back our timing for the first 25 bps hike to October (prev. September). In addition to this hike, we anticipate a further 50 bps of hikes in 1H27.”
With reports from Reuters