Whereâ€™s the Inflation Threat?
Earlier this month, the Bank of Canada raised interest rates ahead of its original schedule to head off inflation. Some commentators are calling for further rate hikes in the near future. But todayâ€™s Consumer Price Index suggests that inflation is not an impending threat.
Adjusting for seasonal factors, consumer prices were lower in May than they had been in April. The overall inflation rate dropped from 1.8% to 1.4%. The Bank of Canadaâ€™s core inflation rate slipped from 1.9% to 1.8%. By any measure, the spectre of inflation receded.
However, actual and prospective interest rate hikes have aggravated a more serious problem: the exchange rate. The notion that Canada will raise rates, even as the US stands pat, encourages currency traders to bid up the Canadian dollar.
Indeed, the loonie has increased from under 93 US cents on May 25 to above 98 US cents yesterday. This appreciation works against a recovery in Canadaâ€™s export industries.
According to the OECDâ€™s latest figures on purchasing power parity, the Canadian dollar should be worth 82 US cents. For Canada, an overvalued currency is a greater economic threat than inflation. At a minimum, the Bank of Canada should signal that it will not raise interest rates in the near future.