Canada’s inflation rate has been a major concern over the past two years, driven by rising energy costs, supply chain disruptions, and strong consumer demand. As the country heads into 2025, energy prices are finally beginning to moderate, offering some relief to households and businesses alike. However, experts warn that falling energy prices alone will not be enough to fully curb Canada’s inflationary pressures. With other structural challenges, including labor shortages, housing costs, and global economic uncertainties, inflation is likely to persist even as energy prices decline. This article explores why lower energy costs won’t fix Canada’s inflation problem and what lies ahead for the economy.
The Role of Energy Prices in Canada’s Inflation
Energy prices have played a significant role in driving inflation in Canada over the past two years. In 2022, the surge in global oil prices—driven by geopolitical tensions and the war in Ukraine—led to sharp increases in the cost of gasoline, natural gas, and electricity. As a major importer of refined oil products, Canada was not immune to these price hikes, which quickly fed through to higher transportation and heating costs for consumers and businesses.
By 2023, energy inflation reached double digits, with gasoline prices rising by 35% year-over-year at their peak. This, in turn, led to broader price increases across the economy, as businesses passed on higher transportation and production costs to consumers. Food prices, in particular, were heavily affected by rising energy costs, contributing to headline inflation reaching 7.6% in mid-2023.
Fast forward to 2024, and energy prices have begun to moderate. Global oil prices have stabilized, with Brent crude falling from a high of $120 per barrel in 2022 to $85 per barrel in October 2024. This decline has been driven by a combination of slowing global demand, particularly from China, and improved supply conditions as oil producers ramp up output. As a result, Canada’s inflation rate has fallen to 3.5% by the end of 2024, down from the double-digit peaks seen the previous year.
Why Lower Energy Prices Won’t Fix Inflation
While falling energy prices have provided some relief, they will not be enough to fully solve Canada’s inflation problem. Several structural factors are continuing to exert upward pressure on prices, even as energy costs decline.
- Labor Shortages and Wage Growth: One of the key drivers of inflation in Canada is the ongoing labor shortage, which is pushing up wages across multiple sectors. Canada’s unemployment rate stood at 5.7% in September 2024, but the labor market remains tight, particularly in sectors like healthcare, construction, and technology. With businesses competing for a limited pool of workers, wages have risen sharply, with average hourly earnings increasing by 4.9% year-over-year.
Wage growth is contributing to higher service inflation, which has proven more persistent than energy-driven price increases. In September 2024, service sector inflation remained elevated at 6.2%, driven by rising labor costs in healthcare, education, and hospitality. As wage pressures continue, businesses will be forced to raise prices to cover their higher labor costs, limiting the impact of lower energy prices on overall inflation.
- Housing Costs: The housing market remains another major source of inflationary pressure. While home price growth has moderated in recent months, rental costs continue to rise, particularly in major urban centers like Toronto and Vancouver. In 2024, the average rent for a one-bedroom apartment in Toronto increased by 6.8% year-over-year, reflecting strong demand and a shortage of affordable housing.
With rental inflation showing no signs of slowing, housing costs will continue to contribute to overall inflation in 2025. Lower energy prices may help reduce some household expenses, but for many Canadians, rising housing costs will offset these savings, keeping inflation elevated.
- Global Supply Chain Pressures: While some of the supply chain disruptions that plagued the global economy in 2022 and 2023 have eased, lingering challenges remain. Global shipping costs have fallen from their pandemic-era highs, but logistical bottlenecks in key manufacturing hubs like China and Southeast Asia are still affecting the flow of goods. Supply chain delays and rising input costs for raw materials are contributing to higher prices for durable goods, including electronics, vehicles, and appliances.
These global pressures are expected to persist into 2025, limiting the ability of lower energy prices to bring down the cost of goods. With consumer demand remaining strong and supply chain challenges still unresolved, businesses will continue to face higher costs, which are likely to be passed on to consumers.
- Food Price Inflation: Despite the moderation in energy costs, food prices remain a significant source of inflationary pressure. In September 2024, food inflation stood at 8.1%, driven by higher production costs, labor shortages, and global agricultural supply issues. While lower fuel costs may help reduce transportation expenses for food producers, other factors—such as rising input costs for fertilizers, labor shortages in the agricultural sector, and climate-related disruptions—are expected to keep food prices elevated.
For many Canadian households, food represents a major portion of their monthly expenses, and ongoing food price inflation will continue to weigh on budgets even as other costs, like energy, decline.
The Outlook for Inflation in 2025
Given these structural factors, most economists believe that inflation will remain above the Bank of Canada’s 2% target throughout much of 2025. While energy prices are expected to remain stable or decline slightly, the broader inflationary pressures driven by labor costs, housing, and food prices will keep inflation from falling significantly.
The Bank of Canada (BoC) has already cut interest rates twice in 2024, bringing the overnight rate down to 3%. Further rate cuts are expected in early 2025, with the BoC aiming to stimulate economic growth and support household spending. However, the central bank has acknowledged that inflation may remain “sticky” in certain sectors, and it may need to maintain a cautious approach to further rate cuts to avoid reigniting inflationary pressures.
According to the BoC’s latest projections, headline inflation is expected to decline to 2.5% by mid-2025, with core inflation remaining slightly higher at around 3%. This suggests that while inflation will continue to moderate, it is unlikely to fall back to the central bank’s target until the latter half of the year.
What This Means for Canadian Consumers
For Canadian consumers, the persistence of inflation means that household budgets will continue to be squeezed in 2025, even as energy prices fall. While lower gasoline and utility costs may provide some relief, higher prices for housing, food, and services will keep the overall cost of living elevated.
This inflationary environment will also have implications for wage growth and employment. As businesses grapple with rising labor costs, they may need to pass on higher prices to consumers, leading to further price increases. At the same time, businesses in sectors facing weaker demand—such as retail and hospitality—may struggle to absorb higher costs, potentially leading to job cuts or reduced hiring.
For households, managing inflation will require careful budgeting and a focus on cutting discretionary spending where possible. With inflation expected to remain above target for much of 2025, consumers will need to be prepared for higher prices across a range of goods and services.
Conclusion: Inflation Pressures to Persist Despite Falling Energy Prices
While the decline in energy prices offers some hope for relief from inflation, it is unlikely to be a panacea for Canada’s broader inflationary challenges. Labor shortages, rising housing costs, and global supply chain pressures will continue to exert upward pressure on prices, keeping inflation elevated throughout much of 2025.
For Canadian consumers and businesses, the focus will need to remain on managing costs and adapting to a higher-inflation environment. While the Bank of Canada’s rate cuts may provide some support, it will take time for inflation to return to the central bank’s 2% target, and the road to price stability will likely be a gradual one.
