Canada’s annual inflation rate eases to 1.8% in February ahead of expected energy shock

Canada's annual inflation rate fell to 1.8% in February, after prices in the same period a year ago had risen sharply when the government's sales tax relief ended, Statistics Canada said on Monday.

Excluding the effect of indirect taxes, the Consumer Price Index rose 1.9% year-over-year in February, it said.

The inflation data for March will be the final month affected by the base-year effect of the sales tax break. But rising crude oil prices as a result of the Iran war are likely to change inflation expectations.

Economists polled by Reuters had expected inflation to fall to 1.9% year-over-year in February from 2.3% in January, and 0.7% month-over-month compared with no change in the prior month.

On a monthly basis consumer prices rose by 0.5% in February, StatsCan said.

The Bank of Canada has held its key policy rate at 2.25% since October, as inflation stabilized around its 2% target within a 1-3% control range.

The BoC will give some indication of inflationary pressures at its policy decision on Wednesday.

"The tame (CPI) report will be welcomed by policymakers ahead of the energy price shock, as it shows that labour market slack is keeping a lid on core prices, with the issue for the BoC being how long the oil price shock lasts for and its magnitude," Katherine Judge, senior economist at CIBC Capital Markets, wrote in a note.

Despite the base year effect, food prices in February rose by 5.4% on an annual basis as food purchased at restaurants increased by 7.8% last month. 

Food prices have remained a major pressure point for Canadian households, as grocery prices have risen faster than overall inflation due to  U.S. President Donald Trump's tariffs, bad weather conditions and supply chain issues. 

Grocery prices rose 4.1% in February after a 4.8% rise observed in January, and the statistics agency said they have risen by 30% in the last five years. 

Gasoline prices decelerated by 14.2% in February due to the continued impact of the removal of a carbon tax on the fuel, which reduced the year-over-year price. This impact will stay until April, StatsCan said. 

Shelter costs - the largest component of the CPI basket with a weight of roughly 29% - rose at a slower pace of 1.5% in February as mortgage costs continued to ease. Rent costs rose 3.9% on an annual basis in February.

Economists and the Bank of Canada closely watch core measures of inflation to gauge underlying price pressures.

The CPI-median, the centermost component of the CPI basket, was 2.3%, while CPI-trim, which excludes the most extreme price changes, was also at 2.3%.

The Canadian dollar firmed and was trading up 0.28% to $1.3679 against the U.S. dollar, or 73.10 U.S. cents. Yields on two-year government bonds fell 6.5 basis points to 2.731%.

(Reporting by Promit Mukherjee; Editing by Dale Smith, Andrea Ricci and Nia Williams)