CPI surprises to the downside; Consumer confidence erodes; End of the bond sell-off?

Inflation, where is thy sting?

In more signs that a Bank of Canada rate hike is likely not in the cards for some time, Canadian CPI readings came in lower than expected for the month of November.

You’ll recall that October CPI readings registered as the highest in two years.  This reading was partly responsible for the violent sell-off in Canadian bonds over the past few weeks as investors fretted about a possible rise in inflationary pressures.

BMO noted the following:

“Canadian consumer prices rose just 0.1% in November, mild enough to chop the headline inflation rate to 2.0% from the two‐year high of 2.4% the prior month. Similarly, core prices were also below expectations at flat, carving the annual trend in underlying inflation to just 1.4% after it popped up to 1.8% in October.”

“Recall, that the wide gap between headline and core inflation can be readily explained by the start of the HST in Ontario and B.C. at mid‐year, which alone is bumping up overall inflation by 0.7 percentage points. Excluding that item, Canada’s current inflation rate (of 1.3%) is not much different from the 1.1% U.S. pace.”

“After a one‐month stir, Canadian inflation is headed back into hibernation. The big question after the surprise pop in October’s CPI was whether it was a one‐month fluke, or the start of a new higher trend for inflation—today’s report emphatically says “one‐month fluke”.  This docile report will quell talk of a rate hike by the Bank of Canada in early 2011, especially in combination with the meagre 1.0% GDP growth seen in Q3.”

Once again I’ll point out that the data continues to support my suggestion that the Bank of Canada prematurely raised interest rates according to their own playbook, a mistake they won’t soon repeat.  Indeed, it appears that subdued inflation readings are accompanying continued strong credit demand.  It begs the question of what these CPI readings will look like once credit demand wanes and savings normalize. 

Consumer confidence erodes

The December reading of consumer confidence by the Conference Board of Canada indicates that consumer confidence has fallen back to year-ago levels, erasing the gains from much of the year.

“The Index of Consumer Confidence fell 2.6 points to 81 (2002 = 100) this month to close out the year virtually unchanged from where it was in December 2009. Pessimism was concentrated in Central Canada, as lower index values in Quebec and Ontario outweighed the large upward movement in British Columbia.”

“The percentage of consumers who reported that their family’s financial situation had improved over the past six months rose to 17.6 per cent, up 1.2 points from November. Unfortunately, this positive development was more than offset by a 1.7 points increase—to 22.4 per cent—in the share of respondents who responded that they were worse off financially compared with six months ago. The balance of opinion on this question has been negative for 26 consecutive months.”

The most important finding of the survey is the following:

“Results on the major purchases question continue to prove worrisome. When asked if they feel that this is a good time to make a major purchase, just 38.5 per cent of respondents answered positively—down 2.7 points.  Moreover, the share of respondents who responded that it is a bad time rose for a seven consecutive month, this time by 0.9 points. At 49.6 per cent, the share of Canadians who now consider it a bad time to make a major purchase has reached its highest level since April 2009.”

This is significant.  Our GDP growth is 65% dependent on consumer spending.  Indications that consumer demand is fading therefore give us a glimpse into whether the consumer will act as the propeller or the anchor on economic growth in the near term.

You may recall that the Consumer Metrics Institute publishes an interesting index that tracks major purchase intentions by US consumers.  It has been an excellent leading indicator of broader economic growth.  When advanced two quarters and compared with GDP growth, the results are interesting.  Note the CMI index is the red line while GDP is represented by the green bars.

Given that our economies are both overly-dependent (by historic norms) on consumer spending for GDP growth, it suggests to me that the recent weakness in Canadian GDP is likely not a passing trend as house prices, HELOC growth, consumer spending, and savings  all sit precariously off their historic norms and are set for a mean reversal.

End of the bond sell-off?

Bonds all across the curve experienced strong selling pressure over the past few weeks in response to inflation fears and sovereign debt concerns out of Europe.  With today’s tepid GDP reading and declining consumer confidence, we may well see a strong bounce in bonds.  Yields have already started creeping lower in the past few sessions as bonds have found their bid.

Slowing CPI readings and lackluster growth prospects lead me to believe that the start of a dreaded rate hike tightening cycle may be quite a ways into the future, meaning the bond market may be safe for a while.  At least until sovereign debt concerns again raise their ugly head.


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11 Responses to CPI surprises to the downside; Consumer confidence erodes; End of the bond sell-off?

  1. jesse says:

    How many weeks until the next sovereign crisis?;)

  2. John in Ottawa says:

    The biggest bubble of them all was the baby boom.

    I’m a retired boomer and, while comfortable, I simply don’t spend anywhere near as much as I used to. I simply don’t need to. I have exactly the house that I want, that I built myself over the past two and a half years 10 feet from the waterfront on a beautiful lake. I have everything I want and need. The boy announced last night that he will finish university in two years, so there goes another expense.

    There are a lot of trajectories that are converging on a generational nexus. The largest consumer generation is scaling back. While we were on our spending spree, we used up the cheap oil. For some reason, we chose to spend most of the money on junk of little lasting value. We burned the money and the oil.

    My wife and I were discussing the differences between our prospects as young 20 year olds and those of today’s 20 year olds. We looked at the future as something we could conquer. We could do anything we decided we wanted to do. There was the usual angst, but no uncertainty.

    Our son’s girlfriend told us last night that they are building the pillars of their future right now, but they don’t know what they are building the pillars on. They see uncertainty in the future.

    My father, who grew up during the depression, used to say he had it tough and I had it too easy. Now I think that I had it too easy and my son is going to have it tough.

    My mother just says she is glad she is on the way out and not on the way in.

    • jesse says:

      I hope the younger generations are a bit more positive than that. There are some challenging problems to solve. I think it’s up to the older generations to keep things positive; I know my parents certainly have.

      • John in Ottawa says:

        Yes, I keep my thoughts to myself. My son is studying economics, so he has a grasp of the situation. He knows a thing or two about catabolic collapse.

  3. vreaa says:

    Downtown Vancouver is quieter than one would expect pre-Xmas.

  4. Lumpen says:

    Indeed, it appears that subdued inflation readings are accompanying continued strong credit demand. It begs the question of what these CPI readings will look like once credit demand wanes and savings normalize.

    To me, that’s the big unknown. Will credit growth continue at > nominal GDP rates for another quarter, another year, or another decade? Find the answer to that question, and you’ll have a great window into asset pricing across all classes. I don’t believe mean reversion is the answer – 160%, 170%, or more, doesn’t materially change the model. There’s a catalyst involved.

    • rp1 says:

      I’ve given up. As long as they hold interest rates below the rate of inflation debt can expand arbitrarily. Take a good look at Harriet:


      The woman is 1 million in debt with a 45k annual income. Her debt to disposable income must be 5000%. There is no limit to this number, it’s simply a measure of risk.

      Of course Harriet’s cash flow is extremely sensitive to interest rates. She’s leveraged 50:1 into real estate, which makes her an unofficial Lehman Brother. But as long as she has positive cash flow she is fine.

      In a capitalist world she’d have gone bankrupt long ago, or worse, been tragically denied credit at some point. But our government gladly lent her 1 million dollars and now the Bank of Canada is propping her up. She is Citigroup, and so long as present conditions persist she is laughing.

      Look at it this way – who is winning? Harriet is making money from the rentals and the banks are making money from the loans with no risk. The government is already out of pocket – it can only incur losses by calling her loan so it probably never will. Savers lose. Homebuyers lose. Young people lose. There is no way to fix this without incurring losses that at a glance would appear unnecessary.

      I would suggest that Harriet has it made. She is clearly the model citizen. Anyone saving money is really losing money, and will continue to do so with no end in sight. Eventually your savings and Harriets debt will be inflated away, and then who is the winner? Or perhaps there will be a debt crisis, but then what will your savings be worth? Probably less than an income producing asset.

      In this brave new world the rational thing to do is to emulate Harriet. The government will undoubtedly slam the door on credit, and then there will be increasingly fewer options for income producing investments. Savers will be trapped in a firestorm of inflation and low yields.

      Your options are:
      1) leave the country (best)
      2) buy income producing assets
      3) buy precious metals (good luck)
      4) start a profitable business

      Option 2 is the Garth option. Unfortunately to do so you will have to accept higher and higher systemic risk. At some point there will be a much larger crisis. The reason is that we did not fix anything that caused the last crisis – we simply pushed everyone into more risk to make previously risky bets like Harriet’s pay off. Precious metals are a hedge, but good luck keeping them when things blow up.

      From what I can see, nothing about our society is sustainable. Our consumption, pollution, and finances are all unsound, yet we have repeatedly chosen denial. We ignore even the most dire problems until there is a crisis, and even then we fail to fix or learn anything. We just don’t care. The last shoe to drop will be political freedom, then we will meet our fate. I suppose everyone knows that and we’re simply captives to psychology. We need to snap out of it.

  5. LRM says:

    TSX up 171.9 today. The market does not seem to be concerned about debt being too high or the fact that the economy is slowing down!! All is good and it is getting difficult to express a negative opinion with friends/family . What is it going to take to change the forward momentum in the confidence of market participants ? Does economic data have any influence even when BOC’s Mark Carney is ringing the last minute warning bells?

  6. Pingback: Watching for signs of a deflating Canadian debt/real estate bubble | Financial Insights

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