Inflation in Canada remained “under control” in February, but higher prices are on the way courtesy of the Iran war that began on February 28.

At 1.8%, year-over-year (y/y) price growth in Canada as measured by the Consumer Price Index was below the 2% target in February and down half a point from January. That’s positive news for consumers, but the bigger story is the impact of the closure of the Strait of Hormuz on inflation and how long it will last.

The Strait is a critical transportation corridor for oil, natural gas, and fertilizer and its closure due to the war has sent the cost of these commodities soaring. The impact on gasoline prices has been immediate and evident to anyone who has filled up their vehicle recently.

The spike in gasoline prices will be reflected in the March inflation data. The larger spillover effects of the war on the price of everything from food and plane tickets to computer chips* and shipping costs may take a little longer to move the dial but they are coming nonetheless. The extent of the upward pressure on prices will depend on how long the war lasts and how long the damage it does takes to address.

Our current estimate is for the inflation rate in Canada to rise by about 0.2-0.3 percentage points if the West Texas Intermediate oil price benchmark averages US$10-15 higher than what was expected before the war broke out (US$71-76 per barrel instead of US$61).

Back to what was going on in February: base-year effects created by the end of the GST/HST break halfway through the previous February helped lower the inflation rate last month. The lower rate of price growth, however, was more than just a technical matter with inflation excluding GST/HST and other taxes paid by consumers coming in at 1.9% y/y in February.

Two key measures of core inflation (CPI-trim and CPI-median) both decelerated in February to their lowest level since spring 2021 with both at 2.3%.

In Alberta, inflation was running at 1.8% y/y in February, down from 2.0% in January. As with the national rate, lower gasoline prices than the previous February helped cool overall price growth—something that will be going in the other direction in March.

Interest rate implications - Despite weak labour market performance over the first two months of the year, the Canadian economy is not in dire enough straits to make the case for interest rate cuts. At the same time, while the Iran war will add to inflation, it’s too early to say if the price growth will be temporary (and, in turn, something the Bank of Canada can look past) or durable enough that an interest rate increase might be called for. The fact that inflation was below target before the Iran war started provides the Bank with some breathing room. In any case, the Bank was already taking a “wait and see” approach and we expect this to continue.

*The closure of the Strait of Hormuz has also disrupted the supply of sulphur used in chipmaking.  

Answer to the previous trivia question: The Ides of March (March 15) best known being the date on which Julius Caesar was assassinated in 44 BC.

Today’s trivia question: Why is St. Patrick’s Day celebrated on March 17?