Canadian Economic Update

June 18, 2009

Growth:  Canada was hit by falling commodity prices, the U.S. recession, C-dollar appreciation earlier this decade, and global financial difficulties.  Real GDP contracted at an annualized pace (saar) of 3.7% in the fourth quarter of 2008 followed by 5.4% saar in 1Q09.  Inventories accounted for 3.6 percentage points (ppts) of the 5.4% negative growth pace last quarter.  In the U.S., by comparison, the rundown of inventories was responsible for 2.3 ppts of a negative 5.7% drop in GDP at an annualized rate.  The Canadian index of leading economic indicators is under-performing its U.S. counterpart, with a cumulative drop of 2.4% between February and May compared to a 2.0% advance in the U.S. index over those three months.

Unemployment and Capacity Usage:  May’s jobless rate of 8.4% was 2.3 percentage points higher than the 6.1% printed a year earlier.  Full-time workers have fallen 2.7% in the past twelve months.  Capacity utilization has dropped in seven consecutive quarters and was 69.3% in the first quarter of this year, lowest in at least 22 years.

Housing and Banking System:  Canada has far fewer banks than the United States, and they retain comparatively sound balance sheets.  Housing construction contracted sharply in this recession but shows signs of greater stability.  Despite a 9.2% rise of housing starts in May, the April-May level was still around 20% below the 1Q09 average level.

Exports:  Canadian economic weakness has been largely imported.  Exports sank 5.1% in value terms and 3.2% in volume terms in April.  Non-energy exports fell 4.2% and by 16.5% on year in April.  There was a 30.6% plunge in exports in the nine months following July.  Over that period, factory sales and orders fell 24.1% and 31.7%, respectively.  Motor vehicle sales in April were 18.6% lower than a year earlier despite having leveled off recently.

Productivity:  Canadian productivity (output per man-hour) grew only 0.3% over the past year, about a seventh as fast as U.S. productivity.  However, unit wage costs expressed in U.S. dollar terms fell by 16%, bolstering Canadian competitiveness.

Current Account:  The current account swung from a surplus equal to 1.7% of GDP in 2Q08 to a deficit amounting to 2.4% of GDP in 1Q09.  That 4.1 percentage point adverse shift contrasts with a 2.4 percentage point favorable contraction of the U.S. current account deficit to 2.9% of GDP from 5.3% of GDP.

Inflation:  No clear advantage on this score exists between Canada and the United States.  Canadian consumer prices edged up 0.1% in the year to May, whereas the U.S. CPI fell 1.3%.  But over the first five months of 2009, U.S. consumer prices rose more sharply (1.5% saar) than Canadian ones (0.2% saar).  In just the three months between February and May, both indices posted declines, 0.2% saar in the U.S. case and 0.7% saar in Canada.  In light of the extensive slack in Canada’s economy, central bank officials do not anticipate a rise of either total or core inflation back to the 2.0% target until the second half of 2011.  Canadian producer prices fell 2.2% in the year April despite a positive 5.4 ppt boost from Canadian dollar depreciation.  This factor was almost exactly neutralized by the impact of lower oil prices.

Budget:  For many years but no longer, Canada had been the envy of the G7 because of its twin external and budget surpluses.  The gap this financial year will surpass 2% of GDP.  Canadian officials recently revised it upward by 49% and anticipated contrasting changes in revenues (down 5.6%) and spending (up 17%).

Commodity Prices and the Exchange Rate:  The Canadian dollar and the country’s commodity price index have correlated positively historically.  Using period averages, commodity prices fell 46.3% between 2Q08 and 1Q09, while the Canadian dollar weakened 18.5% against the greenback.  But compared to first-quarter averages, commodity prices and the Canadian dollar have since rebounded by 13.6% and 10.2%, and Bank of Canada officials warn that renewed exchange rate strength represents a major downside risk the prospects for a gradual recovery from 4Q09.

Monetary Policy:  The Bank of Canada implemented ten rate cuts from a peak of 4.5% in two waves beginning in December 2007.  The first installment amounted to 150 bps and was completed in April 2008.  Inflationary concerns then put credit easing on hold until last October 8th, when a 50-bp cut was made in coordination with easing that day by the Fed and several other central banks.  Five more rate cuts followed, cutting the key overnight benchmark to 0.25% in April of this year.  Canadian monetary officials have not undertaken quantitative easing.  Instead, a pledge has been made not to raise its rates, assuming inflation stays subdued as expected, until sometime after mid-2010.  Further easing would probably be reconsidered if the Canadian dollar keeps climbing, as officials have signaled that such a development would be unwelcome.

Copyright Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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