By Promit Mukherjee and Ismail Shakil
OTTAWA (Reuters) - Canada's annual inflation rate slowed more than expected to 1.6% in September, data showed on Tuesday, prompting markets to increase bets of a 50 basis point rate cut next week.
The easing of inflation, which was mainly led by a huge drop in the price of gasoline, was the smallest annual increase in consumer prices since February 2021, Statistics Canada said.
Consumer prices in Canada have consistently eased since the beginning of the year, touching the mid-point of Bank of Canada's 1%-3% target range last month as high interest rates hobbled consumer demand and business investments.
The BoC has trimmed its policy rate by 25 basis points at each of its last three policy-setting meetings and Governor Tiff Macklem said last month there were risks that inflation could fall below its target range and economic growth could weaken, raising hopes for a larger-than-usual 50 basis-point rate cut.
Canadian swap markets increased the bets for an oversized 50 basis point rate cut next week to 67% after the inflation data was released, from roughly 52%.
"The Bank of Canada needs to do something to revive the economy and stop inflation from falling too far. Our view is that a 50 basis point rate cut is the right dose of medicine," Royce Mendes, head of macro strategy for Desjardins Group, wrote in a report.
The Canadian dollar weakened to a 10-week low after the inflation data was released to 1.3833 to the U.S. dollar, or 72.29 U.S. cents. Bond yields for government's two-year bonds fell 5.4 basis points to 3.164%.
Analysts polled by Reuters had forecast the inflation rate would cool to 1.8% from 2.0% in August. Month-over-month, the consumer price index decreased 0.4%, compared with a forecast of a 0.2% decline.
Excluding gasoline prices, however, the inflation rate remained at 2.2% in September, Statscan said.
The central bank's preferred measures of core inflation, CPI-median and CPI-trim, were also unchanged. CPI-median - or the value at the middle of the set of price changes in a month - stayed at 2.3%, and CPI-trim - which excludes the most extreme price changes - remained at 2.4%.
In September, seasonally typical easing of transportation prices also dragged down headline inflation, Statscan said.
Shelter price inflation, which the central bank has flagged as one of the areas the bank wants to see more cooling, came in at 5.0% compared with 5.3% in August.
Goods prices fell 1.0% annually in September, while services prices were up 4.0%.