New Conference Board of Canada report

Conference Board connects the dots…

The economic headwinds lined up against the Canadian economy have often been discussed on this humble blog.  It was with great interest that I read a new report by the Conference Board of Canada which largely supported these  assertions.  Yet I was a bit surprised at their ultimate conclusion, which is still forecasting fairly strong growth through 2011.

I’ve come out and predicted a recession in Canada by Q3 2011.  I don’t believe that you can significantly slow consumer spending, increase the savings rate, and have consumers switch mentality to deleveraging and not see substantial economic pain.  But apparently  Conference Board does.

I’m fortunate enough to access the report through my work, as it otherwise costs a ridiculous $600 to access it.  I will quote directly form the report, though the Post ran a story on the report, and it’s a good summary.

Slowing economic growth a given

From the report:

“The strong economic rebound that began in Canada in the fall of 2009 and continued through the spring of this year has started to lose steam.”

No shock there as it has been predicted on this blog and prior to the creation of this blog it was a frequent topic over at my brother’s blog.

“Canada’s domestic economy was being propelled by buoyant consumer spending, vigorous housing activity, and strong doses of fiscal stimulus.

This statement is in reference to the rebound in economic activity since the Great Recession, and it is absolutely correct.  However, my assertion is that buoyant consumer spending and vigorous housing activity have led to the debt acceleration that has driven our economic ‘growth’ since at least 2005 and likely even earlier.

The growth that came after the Great Recession was entirely due to four factors:

1) Inventory restocking by businesses who (correctly) anticipated a decline in demand and cut back on production.  No one predicted the demand bounce that was fueled by points 2 and 3.

2)  Continued consumption on the back of consumer debt which expanded during a recession for the first time in history

3)  Higher housing prices which were goosed by emergency interest rates and which indirectly fed the consumption binge via HELOC growth and wealth effect spending

4)  Aggressive stimulus measures financed by the largest peace time deficit in our history.

As I see it, you have governments who now must raise taxes and cut services to pay for the stimulus measures; At the same time, consumers must deleverage and start saving.  How this can all unwind without undercutting aggregate demand is a bit of a mystery to me.

CBoB sees consumer spending down…but not out

“Over the past six months, growth from within has ebbed—a trend that will continue in 2011. Growth in real consumer spending (which had been running at an annualized rate of 4 per cent) will slow to between 2 and 2.5 per cent next year.”

Strongly disagree.  I would suggest that it will be closer to -2 and -2.5% next year.  Massive consumer spending binges seldom correct themselves with people slowing consumption as incomes catch up.  Falling home prices will exacerbate the decline in consumer spending as HELOC growth will also turn negative.  Remember that home equity extraction added an additional 8.5% to household income in 2009.…a fairly shocking stat that implies that demand for consumer goods is being dragged forward.  Also remember that home equity extraction and the associated consumer spending is HIGHLY correlated with home price growth, as this graph of home equity extraction out of the US shows.

“Residential investment will decline due to a softening housing market. And after peaking early in 2011, infrastructure stimulus will also start to take away from growth as it is unwound.”

Given that housing constitutes 20% of our GDP, I’m not sure I would gloss over the economic impacts of a ‘softening housing market’ on the broader economy.

“After returning to near-normal levels in January, the consumer confidence index fell sharply in February, and it has continued to trend down…business confidence also slipped”

No shock there!

“Many provinces will find it very difficult to cut spending as Canada’s aging population continues to put upward pressure on health-care spending, which already takes 42 cents out of every dollar of provincial spending….The situation suggests that the status quo may not be manageable and that future tax hikes are a likely scenario.”

Indeed.  The stage is set for inter-generational tensions as the younger generation, making up an increasingly smaller portion of the total population, will be asked to shoulder the entitlement burden.  How long our health care system can remain in its current for is the 1000lb gorilla in the room.

Overall the report is actually very insightful.  I would argue that it does not consider the feedback mechanisms that have driven our economic growth and the implications of those very mechanisms going into reverse.

Regardless, it is highly unlikely that the next few years will look anything like the immediate past.

Cheers

Ben

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