Risks

The Bank sees two broad types of upside risks to the inflation outlook and two main downside risks, though the base-case scenario is considered the mostly likely outcome.

Overall, the Bank views the risks to inflation to be balanced.

Assumptions and uncertainties

The projection for real GDP growth depends heavily on the assumed path for population growth (see Key inputs to the projection in the Projections section). The federal government has announced plans to reduce the number of new non-permanent residents arriving in Canada. However, as highlighted in the April Report, the timing of those changes remains unclear.

The outlook is also subject to increased political uncertainty in many of the world’s largest economies. The outcome of recent and future elections may result in shifts in economic policy that could affect the outlook for economic growth and inflation in Canada and around the world.

Main upside risks

There are two broad types of upside risks: services price inflation could be more persistent than in the base case and global geopolitical developments could renew inflationary pressures.

Services price inflation could persist

Shelter price inflation is expected to remain well above its historical average in the base case. The housing vacancy rate is at a record low as a result of stronger-than-usual population growth and a structural shortage in housing supply. The impact of tight supply could be greater than anticipated, stoking more persistent inflationary pressures.

Inflation in services excluding shelter—while not unusually high—has many components rising at a pace well above their historical average. Recently, larger-than-usual declines in prices for communications have offset this pressure. However, if the pace of these declines was to slow more than expected or if unit labour costs were to remain elevated, inflation in prices for services excluding shelter may not moderate as expected.

Geopolitical shifts could stoke inflation

New international trade disruptions stemming from geopolitical tensions and conflicts, including wars in the Middle East and in Ukraine, could impact global commodity prices and impede the supply of traded goods. Attacks on global shipping routes have raised shipping costs to their highest levels since mid-2022. If these disruptions persist or worsen, they could constrain supply and increase producer costs. This would delay the return of inflation back to target.

At the same time, trade tensions have been rising, with restrictions being placed on a widening range of goods and services. This could lead to disruptions of supply chains and trade flows as well as additional tariffs, putting upward pressure on inflation.

Main downside risks

A further slowdown in household spending in Canada and a weaker global economy are the main downside risks to inflation.

Household spending could slow

Household spending could be weaker than in the base case. More Canadians will face higher debt-servicing costs due to upcoming mortgage renewals. Households could become more cautious and, in turn, cut back on consumption spending by more than projected, particularly if labour market conditions turn out to be weaker. Survey responses have recently reflected greater cautiousness, with households in the Bank’s Canadian Survey of Consumer Expectations increasingly concerned about layoffs.

Slower demand growth could, in turn, make Canadian businesses less willing to invest or to hire new workers. With the economy already in excess supply, additional weakness would put more downward pressure on inflation.

Global activity could weaken

Global activity could be weaker than in the base case. The impact of past increases in interest rates in advanced economies may be greater and more persistent than expected. In China, high debt levels and challenges with managing credit risk may further soften lending and growth. Slower-than-expected global growth could also lead to a repricing of risk in financial markets. The resulting fall in equity prices and wider credit spreads would amplify the economic weakness.

As a result, prices for commodities and the demand for Canadian exports would suffer. Canadian economic growth and inflation would be pulled down if these risks were to materialize.