Friday, April 07, 2006

Inflation Jumps in Canada; Confirms Higher Interest Rates Ahead

What we didn't need was another excuse for the Bank of Canada to continue to raise interest rates. However that excuse came earlier this morning when January inflation numbers were released and year over year numbers jumped 2.8%, perilously close to the high end of the Bank of Canada's target 1 to 3% range. The Bank has given every indication that they are worried about inflation and the fact that Canada is operating at or near full capacity, (in their opinion), they are on a course anyways to keep upping the short term interest rates.

The biggest increase was in the price of gasoline which was almost 20% higher than a year ago and pushed the January inflation number up 2/1 0th of 1% over forecasters' estimates. On a month to month basis, inflation was 1/2% higher, a trend that nobody wants to see continued throughout the year. When stripping away the most volatile of statistics such as energy and food, core inflation was up 1.7%.

Not surprisingly, Alberta led the nation with inflation jumping there by a whopping 4.1% annualized. Combine the inflation numbers with yesterday's release of retail sales and it points to a continued buoyant economy in Canada for the first part of this year at least.

Unlike the U.S. where December retail sales were more fragmented, (although Wal-Mart blew last year's stats out of the water with a $3.89 billion quarterly profit on almost $90 billion in sales), consumer demand was very high in Canada over both the Christmas season and is expected to carry on in January with the mild winter and ten's of thousands of gift cards that were redeemed for merchandise last month. (Although gift cards were sold in December, they do not count as sales for a merchant until they are redeemed).

Sales were strongest for electronics, including everything from tv's to computers, to auto sales. In fact, auto sales in 2005 were probably the determining factor in both the U.S. and Canada in pushing retail sales higher than forecast, as the North American auto manufacturers were practically giving cars away last spring and summer. Retail sales across the board for December were $31.25 billion and were up for the third month in a row, pushing retail trade up 6.3% year over year, a pretty astounding figure. However, all was not rosy in the retail trade, as indicated during the Christmas season, where consumers opted away from fashions and accessories as gift items, and personally, as the winter season never really took hold.

Home reno and building store sales also came off as the housing and home renovations markets slipped considerably. Once again it was Alberta leading the pack, and we reiterate that this stat gives further reason for the Bank of Canada to remain hawkish on rates.

It is our opinion that by the time the rate hikes are through in both Canada and the U.S. sometime later this year, and the U.S. will probably ease off on rates before Canada does, our short term rates will bridge the current 1% gap and bypass the U.S. by year's end. Not good for those hoping for a pause in the Canadian dollar however, (and I know that I continue of this theme ad museum), if as indicated in the Federal Reserve minutes from January and Greenspan's last meeting, the U.S. will probably continue to raise their rates beyond March, driving the U.S. dollar higher in the short term which could at least moderate if not put some pressure on the CAD.

Just to be clear, higher U.S. interest rates and a spring moderation in oil prices could pause the CAD, and at least give exporters a chance to catch their collective breath.


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