The Bank of Canada is misjudging core inflation metrics, according to two strategists. 

On Tuesday, Statistics Canada reported that Canada’s consumer price index (CPI) fell to 2.8 per cent in February. On Monday, Royce Mendes, the head of macro strategy at Desjardins, and Tiago Figueiredo, a macro strategist, said in a report that Canada’s policymakers changed their preferred inflation metrics in recent years. 

“After CPI‑common was summarily dismissed during the pandemic, officials have relied heavily on CPI‑median and CPI‑trim when making policy decisions. The problem is that those measures have become biased, likely overestimating the true underlying inflation rate,” the report said. 

“After accounting for these biases, we find that core inflation has continued its downward trend and is now below three per cent. This conclusion is consistent with a host of other indicators, but it’s in contrast to the Bank of Canada’s characterization of inflation.” 

Differing from headline inflation, CPI trim and CPI median attempt to control for extreme outliers in changing prices, focusing on overall price increases experienced by Canadian consumers. 

However, the strategists highlighted in the report that “limited influence estimators,” including CPI median and CPI trim, are not ideal for making policy decisions in real-time. 

“Since these measures are meant to filter out idiosyncratic price changes, stability and persistence in these metrics are typically viewed as features, not bugs. But there are times when doing so removes important price signals about the health of the economy and, therefore, underlying inflation,” the report said. 

According to the report, the distribution of price changes in Canada’s economy is currently “heavily skewed” and suggests a bias in CPI-median and CPI-trim figures. An adjustment is needed to correct the bias, the report said. 

“After correcting for the bias, we find that the median and trimmed mean inflation measures are materially lower than the naive numbers the Bank of Canada is using to make monetary policy decisions,” the report said. 

“The average of bias-adjusted CPI‑median and CPI‑trim is now below three per cent and roughly 0.4 percentage points lower than the average of unadjusted CPI‑median and CPI‑trim.” 

The strategists said the bias-adjusted figures “tell a different story” regarding the path of core inflation. 

“We believe the latest inflation reading, which came in significantly below forecast, has given the Bank of Canada cover to adopt a more dovish stance in April, even if policymakers don’t want to admit that their preferred measures of core inflation might have led them astray,” the report said.