Canada’s inflation rate is expected to fall significantly this year. Here’s why

OTTAWA — After a steep and rapid climb in prices, Canada’s inflation rate is expected to fall significantly this year, giving comfort to economists worried about untamed price growth but little relief to Canadians who have fallen behind.

Inflation, which first began creeping higher in 2021, took off dramatically last year and peaked at 8.1 per cent in the summer.

That’s well above the two per cent inflation target the Bank of Canada is supposed to maintain.

The run-up in prices was sparked by what Desjardins’ chief economist Jimmy Jean called a “perfect storm” — the reopening of economies after COVID-19 restrictions, the Russian invasion of Ukraine and the disruptions in supply chains.

As that storm continues to dissipate, price pressures have relented, giving glimmers of hope that normalcy in price growth may be restored.

Those glimmers are now more apparent in the data. Statistics Canada reported earlier this week that the headline inflation rate fell last month to 5.9 per cent from 6.3 per cent in December, a decline that can be explained by a “base-year effect.”

A base-year effect refers to the impact of price movements from a year ago on the calculation of the year-over-year inflation rate.

Simply put, it means prices today aren’t rising as fast because they’re being compared to already elevated prices a year ago.

Given much of the acceleration in price growth happened in the first half of 2022, the federal agency said the annual inflation rate will continue to slow in the coming months.

Economists tracking month-over-month changes in prices have noticed price pressures easing for a while now.

But as base year effects fade, that deceleration will be more obvious to Canadians who may only be familiar with the annual inflation rate.

Looking ahead, the Bank of Canada is forecasting inflation will fall to about three per cent by mid-year and back down to two per cent in 2024. Most private sector economists are forecasting similar figures as well.

The forecasts come with a major caveat, however: Canada must be spared from unexpected global events that could cause another rise in inflation.

As Canada’s inflation rate continues to fall, Jean warns people shouldn’t confuse disinflation — which refers to prices rising at a slower pace — to outright deflation.

“It doesn’t mean … we’re going to necessarily see price reductions,” Jean said.

“But the pace of increase, when we compare the price index this year to last year, that will certainly get back to something closer to normal.”

For Canadians who have been struggling with the cost of living, slower price growth doesn’t mean relief from high prices.

“A good part of the purchasing power erosion we saw over the last year or so, that’s likely to be permanent, unfortunately,” Jean said. “Unless and until we see incomes pick up.”

Throughout the run-up in prices, wage growth has continually lagged inflation. In January, average hourly wages were up 4.5 per cent compared with a year ago.

And for families who spend a hefty portion of their budgets on groceries, the decline in the headline inflation rate is even less meaningful. In January, grocery prices were up 11.4 per cent on an annual basis, showing no signs of a slowdown.

With affordability still top of mind for many Canadians, Jean said “governments are going to be under pressure to perhaps offer more support, especially for the households that are very in need.”

But as the Canadian economy stares down a potential recession, Jean said most governments will be contending with deficits, forcing them to strike a delicate balance with spending.

As Canadians try to make up for the ground they’ve lost because of inflation, some may take advantage of the robust labour market and pick up more work, Jean said.

“There’s going to be multiple ways people are going to be responding going forward to try to still put bread on their table.”

This report by The Canadian Press was first published Feb. 23, 2023.