UPDATE 2-Canada annual inflation rate jumps to 1.5 pct in January

Fri Feb 21, 2014 9:22am EST

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* Total inflation 1.5 pct on year, 0.3 pct on month

* Core inflation 1.4 pct on year, 0.2 pct on month

* Forecast: 1.3 pct on yr, 0.1 pct on month, for total and core

* Inflation jump lessens rate cut probability

By Randall Palmer

OTTAWA, Feb 21 (Reuters) - Canada's annual inflation rate unexpectedly jumped to 1.5 percent in January from 1.2 percent in December, reducing the likelihood of an interest rate cut by the disinflation-preoccupied Bank of Canada.

Statistics Canada also said on Friday the monthly rise in prices in January from December was 0.3 percent, again more than expected, after a decline of 0.2 percent in December. Core inflation, which excludes volatile items like fruit and gasoline, also came in higher than expected at 1.4 percent on an annual basis and 0.2 percent on a monthly basis.

The median forecasts in a Reuters survey of analysts for both total and core inflation was 1.3 percent on the year and 0.1 percent on the month. The last time inflation was as high as 1.5 percent was in June 2012.

The central bank targets inflation of 2 percent and tries to keep it within a range of 1 to 3 percent. It has had to balance its apprehension about low inflation with its concern about the effect that any further monetary stimulus might have on high household debt levels and housing prices.

"Higher inflationary pressure in Canada, or at least the end of disinflation pressures, feeds directly into Bank of Canada expectations and will remove any pricing for an interest rate cut in Canada, and so is Canadian dollar positive," said Camilla Sutton, chief currency strategist at Scotiabank.

The inflation data indeed helped the Canadian dollar pare earlier losses, though sentiment was moderately tempered by a 1.8 percent seasonally adjusted decline in December retail sales, in which severe weather was a factor.

The currency rose to C$1.1143 to the U.S. dollar, or 89.74 U.S. cents, at 9 a.m. EST (1400 GMT), from C$1.1170, or 89.53 U.S. cents, just before the release.

Overnight index swaps, which trade based on expectations for the central bank's policy rate, showed traders pared back their already small bets on a rate cut in 2014 after the inflation report was released.

"The inflation numbers are still below the mid-point of the target range, so the Bank of Canada can focus on sustaining growth, and that implies the overnight rate holding steady in the near term," said Paul Ferley, assistant chief economist at Royal Bank of Canada.

"In our view it's going to be 2015 before the overnight rate starts to move up."

The largest factors driving prices higher during January were passenger vehicles, natural gas, electricity and water. The year-over-year rise was led by higher costs of shelter, which rose by 2.1 percent on a 12-month basis after December's 1.9 percent 12-month increase.

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