Canada's Housing Bubble

From tuition fees to bus fares, inflation is seeping into the Canadian economy.

February's consumer price index released last week showed core prices, which strip out volatile items like gasoline, accelerated to 2.1 per cent from a year ago - the highest level in 14 months - from a 2-per-cent increase in January. The Bank of Canada sets monetary policy with an aim of keeping inflation at about 2 per cent.

"There's a subtle shift under way," said Patricia Croft, chief economist at RBC Global Asset Management. "The fact is that core inflation in Canada may be relatively sticky - that despite a recession, those inflationary pressures are not too far below the surface. I'm sure this is something that may cause the Bank of Canada to lose a little bit of sleep at night."

Inflation is hardly running amok. And some of last month's price increases stemmed from temporary factors, like the impact of the winter Olympics on hotel prices. But broader gains in the costs of goods and services suggest prices are getting hotter, putting more pressure on the Bank of Canada to raise interest rates.

Some price pressures will persist. House prices have soared in recent months - and Bank of Nova Scotia predicted yesterday that average prices will hit a record this year. House prices aren't a direct item of the CPI. But they are indirectly reflected in the homeowners' replacement costs and mortgage interest costs portion of the index's shelter costs.

The cost of many services is also growing, partly as governments increase user fees to control deficits.

"Bumps in user-fee components such as auto insurance, tuition increases, transits fares, ATM fees, etc., will continue to have an impact as governments close deficits and financial institutions pay for writedowns and impending regulation requirements," said Sheryl King, economist at Merrill Lynch Canada.

In March, fares among Ottawa buses and Toronto-area GO transit will go up. And in April, some provinces will boost electricity rates.

Commodity prices are also trickling into the economy. Tim Hortons, for example, boosted prices in much of Canada late last year, citing higher commodity prices.

Robust economic growth is raising another inflationary red flag. With stronger-than-expected fourth-quarter growth and the first quarter also looking solid, "any slack in the economy may be taken up sooner, rather than later, and that has major implications for inflation," Ms. Croft said.

The strong dollar should, in theory, be a mitigating factor by dampening import prices. But most retailers aren't chopping prices like in the U.S., nor like they did in Canada the last time the loonie traded near parity - perhaps because Canadian consumer demand remains so strong, said Douglas Porter, deputy chief economist at Bank of Montreal.

When the loonie hit par back in 2007, the core rate of inflation almost immediately dropped amid steep price discounting in stores. This time round "we really haven't had any indication whatsoever that this is happening. If anything, core inflation has been gathering steam," he said.

He estimates prices of goods like magazines and clothing cost about 10 to 15 per cent more in Canada than the U.S., after adjusting for the exchange rate. "We're really not seeing the kinds of intense discounting one might have expected."

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A price rise/drop snapshot

UP / Products that have increased the most in the past year

Vegetables, canned and other preparations 12.6%

Sugar and confectionery 8.6%

Pet food 8.5%

Rail, highway bus and other intercity transportation 9.3%

Tuition fees 4.1%

DOWN / Products that have dropped the most in the past year

Potatoes 21.7%

Natural gas 22.8%

Women's clothing 8.7%

Air transportation 9.5%

Home entertainment equipment, parts and services 8%