Risks

The Bank of Canada sees both upside and downside risks to the inflation outlook, but the base-case scenario is considered the most likely outcome.

Overall, the Bank views the risks to inflation to be balanced. With inflation near 2%, the Bank is equally concerned with inflation coming in higher or lower than expected.

Assumptions and uncertainties

The projection for the growth of real gross domestic product (GDP) depends heavily on the assumed path for population growth (see Key inputs to the projection in the Projections section). The federal government has announced a series of measures to reduce the number of new non-permanent residents arriving in Canada. As highlighted in the July Report, uncertainty about the precise timing of the reductions, along with the possibility of further measures, means that the path for population growth is more difficult to predict than usual.

The outlook is also subject to increased geopolitical uncertainty. This includes conflicts in the Middle East and Ukraine, increased trade tensions and the outcome of the elections in the United States and elsewhere. These events 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: inflation in services prices could be more persistent than in the base case, and global geopolitical developments could renew inflationary pressures.

Inflation in services prices could persist

Inflation in shelter prices is expected to slow but stay elevated. The housing vacancy rate remains near record lows. Interest rate cuts, pent-up demand and the recent changes in mortgage rules could spur more demand for housing than expected in the projection. This could lead to larger increases in house prices and rents.

For many non-shelter services, labour costs represent a large share of the total costs. The projection includes a slowdown in wage growth and a pickup in productivity, which both contribute to lower cost pressures. Higher-than-expected labour costs could lead to higher-than-expected inflation.

Geopolitical shifts could stoke inflation

Inflation in goods prices could rise by more than expected in the projection. The possibility of a broadening conflict in the Middle East that could affect Iran’s oil production presents an important upside risk to oil prices. In addition, shipping costs could rise amid ongoing attacks on global shipping routes. The war in Ukraine continues with the possibility of escalation, which could impact the global supply of key commodities. If these disruptions persist or worsen, they could increase producer costs and quickly push up inflation in the prices of goods.

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 trade flows and to additional tariffs, which together would put upward pressure on inflation.

Main downside risks

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

Household spending could remain subdued

Household spending could be weaker than in the base case. Many Canadians will face higher debt-servicing costs due to upcoming mortgage renewals. If labour market conditions turn out to be weaker than expected, consumer spending would be adversely impacted. Slower consumption growth would, in turn, make Canadian businesses less willing to invest or hire new workers. Overall, softer economic activity would exert additional downward pressure on inflation.

Inflation in goods prices could be weaker than expected

Inflation in goods prices has been weak globally. If domestic demand in China proves to be weaker than expected, producers may shift more goods to foreign markets. This would put additional downward pressure on global prices for goods. In addition, soft domestic demand in China could exert further downward pressure on oil and other commodity prices. As a result, inflation in energy and goods prices in Canada would be lower than projected.