Canadian Consumer Prices Fall in August

Inflation remains well contained in Canada, according to the Statistics Canada report on the August CPI released today. Indeed, there has been little movement in the consumer price index since May. The overall index fell 0.2% in August, seasonally adjusted and the ex-food-&-energy "core" index was off 0.1%. Thus, for the month of August, there was outright de-flation; broad categories contributing to the price decline included transportation, health and personal care and recreation, education and reading.

The Bank of Canada uses an inflation target as its main guideline for monetary policy. The target is a 1%-3% range for the CPI, with 2%, the midpoint of the range, kept in sight over the one-and-a-half to two year period that it takes monetary policy to be effective. This operational horizon is long, so the Bank wants to avoid shifting policy due to some transitory movement in one or a few volatile price items. It has therefore devised an alternative measure of "core" inflation that excludes the eight most volatile items as well as indirect taxes (e.g., VAT and other excises. See footnote below for the list of exclusions). Most recently, in 2002, as the Bank's core inflation rate showed signs of persisting above 2% (year-on-year), the Bank raised its target money market rate several times. Core inflation peaked at 3.3% in January of 2003 and began to retreat; as it approached 2% in the summer of 2003, the Bank responded by cutting interest rates. These past few months, the total CPI has hovered between 2-1/4% and 2-1/2%. In the context of stronger-than-expected economic growth in Canada, the Bank raised its rate target on September 8 to 2.25%. However, the latest CPI data reported here show overall inflation at 1.9% and the special Bank of Canada core inflation at just 1.5%. If these price gauges persist at the levels, the Bank might have to reconsider its policy stance.