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Stagflation could rear its head in Canada as geopolitical events coupled with a downbeat business outlook threaten to play havoc with the Bank of Canada‘s plans for getting inflation under control and cutting interest rates, suggests one economist.

Expanding global trade fallout from attacks in the Red Sea corridor leading to the Suez Canal and elevated inflation outlooks in the most recent edition of the Bank of Canada’s business survey have led Sebastien Lavoie, chief economist at Laurentian Bank of Canada, to conclude that stagflation could be in the cards.

“Combined, these two dynamics make Canada’s economy more susceptible to mild stagflation conditions,” he said in an analysis, following the release of December’s consumer price index data, which showed the pace of inflation accelerated 3.4 per cent year over year, up from 3.1 per cent in November.

Stagflation, which walloped the Canadian economy in the 1970s and 1980s, combines a trio of monetary bogeymen, including uneven or contracting growth coupled with elevated inflation and unemployment. At the height of the stagflationary period in the ’80s, Canada’s unemployment rate rose at one point to 13.1 per cent, while the consumer price index sped up 12.8 per cent.

“I want to make clear it’s not the same form of stagflation, at all,” Lavoie said.

Still, the warnings signs are there.

In an economy such as Canada’s where growth is stagnating and “close to a technical recession, usually CPI inflation is zero or one per cent, not above three per cent as it is right now and maybe it’s on its way to four,” he said. “That’s a big challenge.”

Looking at the situation in the Red Sea — through which roughly 12 per of global trade passes — Lavoie noted that an index measuring the cost of a typical shipping container has more than doubled since attacks began a month ago by Yemen-based Houthi rebels at the mouth of the waterway.

“There’s gridlocks again in the world. It’s not looking pretty,” and could end up boosting inflation, he said.

The economist said the Middle East shipping crisis appeared to be affecting trade routes “from Shanghai to Europe, Shanghai to L.A., Shanghai to New York City. It tends to feed pretty quickly into goods CPI in both Canada and the U.S.”

Currently, there’s a “stickiness” to inflation in services, which accounts for 55 per cent of the CPI basket. The goods side of things was trending under two per cent — the Bank of Canada’s target — but is rising again.

“Even if I give a very conservative assumption (for additional inflation from the Red Sea), when you combine all that, it’s possible Canadians could be facing four per cent inflation again this spring,” he said.

The Bank of Canada’s Business Outlook Survey also showed there’s “a form of stagflation that’s bothering business,” Lavoie said.

The most recent survey, released on Jan. 15, said about half of the companies surveyed remain bothered by cost pressures. At the same time, there’s been a “significant rise” in those worried about demand and sales.

“The mindset is more stagflationary than it was a few quarters ago,” he said.

But people won’t like the answer as to how to avoid stagflation or create stagflation light.

“The way around it is the way we’re using right now: a higher degree of restrictiveness on monetary policy than what we are used to. That’s probably the best way and the only way,” Lavoie said. “We’re far from compelling evidence that there is a case to be made for rate cuts.”

The Bank of Canada announces its next interest rate decision on Jan. 24.

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The Red Sea turmoil that’s wreaking havoc on shipping is hitting the market for robusta beans, the variety used in instant coffee, and upending the usual flow of trade.

Buyers of robusta beans are shunning purchases from top producer Vietnam due to surging shipping costs and longer-than-usual travel times. They are instead seeking to secure more supplies from Brazil, according to people familiar with the matter who asked not to be named because the information is private.

Houthi militant attacks on merchant ships in the Red Sea have disrupted a key passage for coffee exports from Vietnam, forcing many commodity carriers to take longer routes. As a result, the premium robusta futures for January delivery command over the next contract surged more than 30 per cent this month. That’s coming after a global shortage of the beans already helped drive up prices by almost 60 per cent in 2023 amid dry weather in the Asian country.

This isn’t the first time robusta trade through the Red Sea region has been disrupted. Two years ago, a vessel that blocked passage in the Suez Canal also upended markets.

— Bloomberg

• Peter Routledge, superintendent of financial institutions, will speak at the TD Securities Annual Financial Services Conference.
• Today’s data: Statistics Canada releases retails sales numbers for the month of November at 8:30 a.m. ET; The National Association of Realtors releases U.S. existing home sales for December.
• Earnings: Schlumberger N.V., State Street Corp.

Get all of today’s top breaking stories as they happen with the  Financial Post’s live news blog, highlighting the business headlines you need to know at a glance.

• Mortgage ‘payment shock’ is why Canada’s economy has fallen behind, says RBC’s McKay
• Canada faces weak start to year as headwinds mount, says Manulife forecast
• Immigration part of solution to Canada’s housing crisis, minister says

The Canada Revenue Agency’s prescribed interest rate has hit double digits. Tax expert Jamie Golombek explains three ways it could affect your wallet. Read his column here

Today’s Posthaste was written by Gigi Suhanic, with additional reporting from The Canadian Press and Bloomberg.

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