Canada Inflation Drops 0.4% in June, BoC Sees Growth Rebound

The Bank of Canada left its overnight rate at 2.25% for a sixth straight meeting. Markets had priced the decision in fully. The bigger story came in the Bank's updated economic outlook, which projected GDP growth at a 2.5% annualized pace in Q2 after two quarters of no growth. Exports, consumer spending, and tentative housing market stabilization are the supports, the Bank said. Excess supply remains and labour market conditions are still soft. Policymakers expressed more confidence that the economy is moving off the bottom rather than slipping further into weakness.

The Bank dropped a reference to the possibility of "consecutive" rate hikes, a phrase it had used in previous statements. That change signals less concern that energy costs will spill into underlying inflation, analysts said. Bond yields barely moved after the decision. The Canadian dollar gained about a cent against the U.S. dollar. Market pricing implies low odds of a policy move by year-end, a sharp shift from January when traders priced in as many as three quarter-point hikes.

June inflation data reinforced the Bank's view. Headline CPI fell 0.4% month on month, its first decline since June 2024. The 12-month rate dropped to 3.5%. A sharp fall in gasoline prices drove the headline move. Core inflation was flat, with goods and services little changed. Categories where tariff passthrough had been visible–appliances, medical goods, apparel–all posted declines. Economists said the flat core reading suggests the worst of the tariff impact is behind.

Oil prices complicated the outlook. Renewed tensions in the Middle East pushed WTI back above $80 a barrel after Iranian forces attacked vessels in the Strait of Hormuz. The U.S. reimposed a naval blockade and resumed strikes on Iranian military targets. Tanker traffic through the strait halted. The Bank acknowledged higher crude prices since its forecast cut-off date, describing them as a modest upside risk to inflation. It said the impact on core prices has been limited so far.

In the U.S., the same disinflationary pattern appeared. June CPI showed a broad pullback, with the headline declining 0.4% month on month. The producer price index also came in soft. Fed funds futures responded by pricing out expectations for a July rate hike. Fed Chair Warsh, in his first congressional testimony, offered no guidance on the next move. He reiterated the committee's commitment to price stability. Other Fed speakers said one month of softer inflation does not make a trend. Several more months of easing will be needed before officials are convinced, they said.

Retail sales for June showed a modest headline gain. The control group, which strips out volatile categories like gasoline, posted a healthier increase. Revisions to the prior month were a bit higher. Consumer spending regained some momentum in Q2 after a weak Q1. The Fed's Beige Book described the spending dynamics as K-shaped, with lower- and middle-income households becoming more price-sensitive and hesitant to spend on discretionary items.

Canadian data broadly backed the Bank's assessment. Manufacturing sales rose for a fourth consecutive month in May, hitting a record high. Wholesale activity remained elevated. Home sales increased for a third straight month, though housing starts softened. The recovery remains uneven across sectors.

The next test for the BoC comes with next week's CPI release. It will show whether the June decline in headline inflation was a one-off or the start of a sustained move lower. For the Fed, the next data point is the July jobs report, due before the July 30–31 meeting.