The Canadian Chamber of Commerce has released their economic outlook for 2011. You may recall that I released my own economic outlook a few weeks ago. Interestingly, both outlooks express concerns over the exact same issues, with the Chamber’s forecast calling for fairly robust growth in spite of these headwinds.
On the current state of the economy:
“After the sharp bounce back, Canada’s economy lost some of its swagger, expanding at a sluggish 2.3 per cent annual rate in the second quarter of 2010 and a meager 1.0 per cent in the third quarter. Additionally, the pace of job creation slowed considerably in the second half of the year.”
I’m not going to be bashful here when I point out that this economic cooling caught most economists off guard but was right in line with what was suggested here on this blog. I’ve always maintained that the economic ‘recovery’ coming out of the recession was virtually entirely driven by real estate and associated wealth effect spending, government stimulus, and inventory restocking. It didn’t take a PhD in economics to see that when you strip out these factors, you have an economy that is still structurally weak.
On consumer debt and spending:
”The two key sources that powered rapid growth earlier in this cycle—consumer spending and housing activity—are cooling down. High household debt burdens point to further moderation over the forecast period. Additionally, economic activity in 2011 will be tempered as federal and provincial governments curtail fiscal stimulus and then step up their efforts to restrain spending.”
This is a key quote. They nailed this one! However, it’s my belief that the necessary consumer deleveraging and the cooling housing market will have a much more pronounced impact on an economy that is 65% reliant on consumer spending with much of that spending being driven by HELOC growth tied to increasing home equity.
”In the months ahead, Canadian households are likely to spend more prudently as they focus on repairing their finances. They racked up unprecedented debt levels during the recession and recovery phase.”
I think ‘spending more prudently’ may prove to be an understatement. Consumers are massively overstretched. There are two long-term means set to readjust: Consumer spending as a percentage of GDP, and household savings rates. Whether it will be an interest rate shock, persistently high unemployment, debt exhaustion, or declining real estate assets that begins this mean reversal is not necessarily important. The bigger picture is that a return to a long-term mean of approximately 55% of GDP driven by consumer spending, and a doubling of household savings rate will require far more than a modest measure of restraint and will hinder growth far more than this report suggests. I suppose the question remains one of timing. If the deleveraging does not hit full stride until after 2011, the forecast may prove correct. However, I still maintain that the most likely catalyst of consumer deleveraging will be a fall in real estate values, which I believe is just around the corner.
”Canada’s red-hot housing market is also cooling. Many home sales were pushed forward in advance of new, tighter mortgage insurance rules, anticipated interest rate hikes and the introduction of the Harmonized Sales Tax (HST) in Ontario and British Columbia.”
Agreed. Expect weak sales to remain throughout 2011 with prices following suit.
On government spending:
”Fiscal fuel fired up the economic engine at a time when it was sputtering and contributed significantly to growth since the onset of the recession. Fiscal stimulus will wind down in 2011 and governments will begin to focus on constraining annual program spending growth”
Despite Flaherty’s recent budget flip-flop, austerity is in the cards, though it remains to be seen whether this will be voluntary austerity enacted by our political leaders or whether this will be forced austerity by the bond market and higher funding costs. I’m not sure how receptive the Canadian public is to the austerity movement just yet, but I do think they are more aware of the need for fiscal prudence than any time in recent history. One needs to look no further than the shockingly successful ‘Stop the Gravy Train’ campaign run by Rob Ford en route to sacking the liberal stronghold of Toronto.
The bottom line remains: Government spending will be a drag on economic growth over the short to medium term.
There is more to the report, but it is all information that has been discussed here before and largely aligns with prior forecasts:
- Muted inflation by the BoC
- Low overnight interest rates until mid 2011 (I’d argue even longer)
- Weak export demand
- Business M&E investment as a bright spot (but as I mentioned in my forecast, this is only sustainable if the rebound in consumer demand remains intact. I have my doubts)
- Loonie above parity (I’ve taken the contrarian position on this one. Without a doubt the USD is fundamentally weak, but that doesn’t mean it won’t benefit from a capital flight out of Europe when the sovereign debt contagion spreads to the Euro zone core later in 2011. I see a strengthening USD throughout 2011)