Canada’s Slowing Inflation Is An Illusion Involving A Tax Holiday

Canada’s government unveiled its latest magic trick—slowing inflation despite a weakening loonie and a trade partner that’s experiencing an acceleration. Statistics Canada (Stat Can) data shows policymakers made the growth of the consumer price index (CPI) disappear in December. A dive into the numbers reveals it was just an optical illusion—the GST/HST holiday temporarily offset the rising costs the rest of the world is facing. The temporary reduction will be seen in reduced CPI through February, with headline growth set to return with a vengeance by March.

Canadian Headline Inflation Decelerated, Core Didn’t Budge

Canadian households received some temporary relief from the cost of living last month. Seasonally adjusted CPI shows monthly prices fell 0.4% in December, following a flat November. Annual growth of headline CPI fell to 1.8% last month, decelerating 0.1 points from November. At first glance, that looks like solid and encouraging progress. It’s even below the Bank of Canada (BoC) target rate of 2 points, but not so low that it presents deflation concerns.

Central banks tend to filter out the most volatile components, so let’s look at that first. BoC-preferred Core CPI, excluding energy and food, reinforced its position above target with a slight acceleration from 2.07% in November to 2.14% in December. CPI Common also remained at 2.0%, unchanged from November. The slight acceleration would be a nothing burger if the problem didn’t include a temporary reduction in the form of fiscal policy. 

Canada’s GST/HST Holiday Temporarily Lowered Inflation 

Canadian CPI saw a reduction due to the GST/HST holiday. The temporary measure provides sales taxes relief from December 14th through February 15th, as governments forgo the revenue and add it to public debt. Since CPI includes sales taxes when calculating price growth, Stat Can notes that 1 in 10 CPI components received temporary price relief. According to the agency, the biggest segments impacted are food; alcoholic beverages, tobacco products, and recreational cannabis; recreation, education, and reading; and clothing and footwear.

But wait, there’s more! Certain provinces don’t have a 5% Federal GST, but it’s combined with the provincial sales tax (PST) to create a harmonized sales tax (HST). Those provinces are Ontario, and the Atlantic provinces, which also agreed to waive their portion resulting in a drop of up to 15% on prices. Those provinces helped to push CPI significantly lower, though the chart below highlights how other provinces weren’t vibin’ nearly as much. That sharp discount is still temporary and will result in a sharper correction around March. 

Canadian Tax Holiday Impact On Inflation Highlighted In Provincial Breakdown 

Change to the annual growth rate of CPI from November to December 2024, broken down by GST vs HST holiday provinces. In percentage points. 

Source: Statistics Canada; Better Dwelling.

Canadian Tax Holiday Temporarily Offsets Trend Reversal

Over the past year, much of the decline in CPI has been driven by a base effect in gasoline. The entire deceleration of 0.1 points in November’s headline CPI was due to falling gas prices. That trend wore off in December, with a similar unwinding base effect pushing prices 3.5% higher. Without the GST/HST Holiday, the headline rate of inflation would have climbed significantly—an issue that will likely pick up in March and be released in April, just after the ruling federal party picks its new leader.  

Canada’s declining inflation rate may seem odd as the US economy ramps up, and expect that divergence to widen next month. The GST/HST holiday only impacted two weeks in December, but it will reduce the whole month of January—so expect an even sharper decline. The temporary reduction will begin to unwind in February as its phased out, and CPI growth should return with a fury in the March report that gets released in April.