On the Radar: Canadian Inflation Is Cooling, But Will the U.S. Fed Let Canadian Mortgage Rates Follow?

Capital Markets update
Feb 20, 2026

First National Financial LP

Key Takeaways:

Canada’s headline CPI slowed to 2.3 percent year over year in January from 2.4 percent in December, and the Bank of Canada’s preferred core measures averaged just a 1.2 percent annualized rate over the last three months, the clearest signal yet that underlying domestic inflation pressure is fading.
The U.S. Fed minutes released Wednesday revealed that several officials raised the possibility of rate hikes if inflation remains above target, while markets now price a 94 percent probability the Fed holds at the March 18 meeting.
The result is a widening tension between domestic and foreign rate drivers: Canadian inflation data supports lower yields, but elevated U.S. Treasury yields continue to hold a floor under Government of Canada 5-year and 10-year bonds, limiting how far fixed mortgage rates can fall.

Canadian Inflation Is Moving In The Right Direction

Monday’s CPI report was constructive for anyone watching Canadian rates. Headline inflation edged down to 2.3 percent year over year in January from 2.4 percent in December. That decline came despite a technical headwind: the temporary GST/HST tax holiday that was in effect a year ago means January 2026 after-tax prices are being compared against January 2025 pre-tax prices, which artificially inflates the year-over-year reading. Stripping out the effect of indirect taxes, price growth slowed to 2.1 percent.

The more important signal came from the Bank of Canada’s preferred core measures. CPI-trim fell to 2.4 percent and CPI-median to 2.5 percent year over year, averaging 2.5 percent, down from 2.6 percent in December. Both posted a second consecutive month-over-month gain of just 0.1 percent on a seasonally adjusted basis. The three-month annualized average of trim and median has dropped to roughly 1.2 percent, which is well below the 2 percent target and suggests that the underlying trend in price growth is decelerating faster than the year-over-year numbers indicate.

Some of the easing is coming from shelter, which has been the most persistent source of above-target inflation in Canada for the past two years. Rent price growth slowed to 4.3 percent year over year. Mortgage interest cost growth, which had been running in double digits as recently as early 2024, continued to moderate, falling to 1.2 percent year over year from 1.7 percent in December. As more households renew mortgages at rates that are now lower than the peaks of 2023 and 2024, this component should continue to fade as a driver of headline inflation.

Not everything is easing. Food prices remain elevated, with grocery inflation at 4.8 percent and restaurant meals inflated to 12.2 percent year over year by the GST holiday base effect. But the breadth of high inflation is narrowing. Roughly 23 percent of the CPI basket was growing above a 5 percent rate over the last three months, down from 28 percent in December and 30 percent in November. That is the kind of broad-based deceleration that typically gives a central bank confidence that the disinflation trend is genuine.

The Fed Minutes Tell A Different Story

While Canadian inflation data is cooperating, the Fed minutes released Wednesday introduced a hawkish counterweight. The minutes from the January 27–28 meeting revealed that the committee is deeply divided on where rates should go from here. The Fed held rates steady at 3.50 to 3.75 percent after three consecutive cuts in the final months of 2025, and the minutes show that the pause was not simply a rest stop on the way to further easing.

Several participants indicated that rate hikes could be appropriate if inflation remains above the 2 percent target. That language is notable because it shifts the framing from “how fast do we cut” to “do we cut at all, or might we need to tighten.” Some officials argued that additional easing may not be warranted until there is clear indication that disinflation is firmly back on track. On the other side, two governors dissented and preferred another quarter-point cut at the January meeting.

The division is significant. The Fed’s key inflation gauge, the personal consumption expenditures price index, has been running near 3 percent, well above the 2 percent target. At the same time, the labor market showed renewed strength in January with 130,000 jobs added, the unemployment rate ticking down to 4.3 percent, and wages rising 3.7 percent year over year. That combination of sticky inflation and a stabilizing labor market gives the hawkish wing of the committee a strong case for patience, if not outright tightening.

Markets have listened. The CME FedWatch tool now prices a 94.1 percent probability that the Fed holds at the March 18 meeting, with only a 5.9 percent chance of a cut. The next cut is now most likely in June at the earliest, with a second possible in September or October.

Two Signals Pulling In Opposite Directions For Canadian Mortgage Rates

Canadian mortgage borrowers are now caught between two conflicting forces. On the domestic side, the inflation data is doing exactly what the Bank of Canada needs to see before it considers further easing. Core measures are trending below target on a three-month annualized basis, shelter inflation is moderating, and the breadth of price pressures is narrowing. That environment, taken on its own, would support stable or even slightly lower Government of Canada 5-year and 10-year yields.

But Canadian bond yields do not trade in isolation. U.S. Treasury yields are the single most important external anchor for GoC yields at the 5-year and 10-year maturities, which are the reference points for fixed mortgage pricing. When U.S. yields stay elevated because the Fed is on hold and some officials are even discussing hikes, Canadian yields struggle to move meaningfully lower. The gravitational pull of U.S. rates creates a floor that domestic data alone cannot easily break through.

Markets reflect this stalemate. The Bank of Canada meeting odds dashboard shows a 98 percent probability that the overnight rate holds at 2.25 percent at the March 28 meeting, with only a 2 percent probability of a cut. That pricing is not because Canadian inflation is too high for a cut. It is because the U.S. rate environment and the currency constraint make it difficult for the Bank of Canada to move independently, even when domestic conditions might support it.

Bottom Line

Canada’s January CPI report confirmed that domestic inflation is moving in the right direction. Core measures are trending well below the 2 percent target on a short-term basis, shelter costs are easing, and the breadth of price pressures is narrowing. In a world where only Canadian data mattered, this would point to stable or lower GoC yields and, in turn, lower fixed mortgage rates.

But Wednesday’s Fed minutes remind us that Canadian rates do not move in a vacuum. A divided Fed with some officials openly discussing rate hikes, sticky U.S. inflation near 3 percent, and a 94 percent probability of no change at the March meeting all keep U.S. Treasury yields elevated.

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