Higher Energy Prices Offset by Tax Holiday in January

Key insights

In January, higher energy costs accelerated the pace of consumer price growth. Gasoline prices were sharply higher than a year ago. However, the inflation rate remained below the Bank of Canada’s 2.0 per cent target partly due to the GST/HST holiday. As in December, the impact of the tax holiday was particularly apparent for prices of food at restaurants, which fell by 5.1 per cent (year-over-year) in January. Prices for alcoholic beverages, toys, games, and hobby supplies—included in the tax break—also fell distinctly compared to a year ago.

Considering the impermanence of the tax holiday, January’s headline inflation reading doesn’t reflect the underlying inflation trend. More broadly, the Bank of Canada’s preferred measures of core inflation rose slightly. These measures haven’t fallen below 2.5 per cent since the inflation surge began several years ago. With the tax holiday ending, we expect inflationary pressures could increase in February.

Trade policy in the United States is the biggest risk to Canada’s inflation outlook. The stark weakness of the Canadian dollar against the U.S. greenback is already pushing some prices higher, as the cost of imported goods rises. Tariffs, however, would have even more dramatic effects. President Donald Trump’s threatened 25 per cent tariff on all imports from Canada (with a lesser 10 per cent tariff on oil) could materialize in March, bringing further inflationary pressure. These tariff barriers would necessitate supply chain retooling, raising production costs and, ultimately, lifting consumer prices. Canadian retaliatory measures would also directly drive the CPI higher. If tariffs linger, business investment will weaken in Canada, undermining productivity growth in turn. There are signs that this is already happening.

Read our latest commentary about U.S tariffs.