October seen marking return of inflation to Canada

By Louise Egan

OTTAWA (Reuters) - Canadian consumer prices are seen rising in October, ending a four-month bout of deflation, but so far that has not generated concerns of an inflationary kickback as the economy starts to grow again.

In a Reuters poll, analysts' median forecast was for a monthly rise of 0.1 percent in the consumer price index in October and an annual increase of 0.3 percent, compared with a 0.9 percent decline in the year to September.

After seeing negative CPI numbers since June, consumers may fear that a rise in the index in October means bigger bills at a time when they don't feel fully recovered from the recession and unemployment remains high, said Mark Chandler, fixed-income strategist at RBC Capital Markets.

"There may be a bit of sticker shock still associated with it," he said.

But Chandler said the upturn simply marks the end of the period in which skyrocketing gasoline prices in the summer of 2008 contrasted with lower prices a year later.

"It's been four months that we've had negative headline deflation, so if you do get a positive reading or if it's flat, some people don't take the time and consideration to think about what happened at this time last year that might drive the year on year rate up. There is that possible knee-jerk response," Chandler said.

The Bank of Canada aims to bring the inflation rate back to 2 percent, a rate it considers optimal for growth.

The core rate, used by the bank as a more reliable measurement as it excludes energy and other volatile items, is expected to be flat on the month and ahead 1.7 percent on the year, up from 1.5 percent.

That measure "remained well behaved back then (in 2008) as high commodities didn't materially work through core prices. Thus, look for still well-behaved core inflation," Scotia Capital economists Derek Holt and Karen Cordes said in an email note.

Inflation concerns faded to the background during the global financial crisis as the Bank of Canada and government focused on stimulating the economy through record low interest rates and extraordinary infrastructure spending.

Now that the economy has begun its gradual recovery, price pressures return to policy makers' radars, but most believe inflation will remain tame at least through the first half of next year.

The central bank said last month that inflation looked more subdued than it previously thought and predicted it would return to its target in the third quarter of 2011, one quarter later than it previously expected.

It sees CPI, which fell 0.9 percent in the third quarter, rising 1 percent in the fourth quarter of this year. Core inflation will ease to 1.4 percent in the fourth quarter from 1.7 percent in the third, it projected.

The trick for the Bank of Canada now is to keep a very close watch on all the inflation pressure points -- including wages and surveys on inflation expectations -- so it can start raising rates, or withdrawing stimulus, before inflation gets off track.

(Reporting by Louise Egan; editing by Rob Wilson)