Why Canada’s Economy is in Trouble
By Walter Kurtz, Sober Look
Analysts are beginning to raise concerns about Canada’s near-term economic growth. The nation’s central bank is holding the overnight rate at 1% and will likely maintain this level for some time to come.
Toronto Star: – The [central] bank’s current stance reflects the weak performance of the economy in the last months of 2012. Canada’s gross domestic product (GDP), which measures total output of goods and services, grew by a meagre 0.6 per cent on an annual basis in the final three months of last year. For 2012 as a whole, Canada’s economy recorded growth of 1.8 per cent, down from 2.6 per cent in 2011.
This weakness in Canada’s economy is clearly visible in the relative performance of the Canadian and the US equity markets. The two markets, which have traditionally moved fairly closely together, have diverged recently.
S&P/TSX (Canada): blue, S&P500 (US): red
A number of somewhat related factors are driving this weakness in Canada’s growth. Here are some of them:
1. Canada’s exports are heavily concentrated in energy with a big focus on the nation’s largest trading partner, the US. And as discussed before, the US energy markets are now quite well supplied. The US has a tremendous domestic source of natural gas, while crude oil inventories are high relative to historical levels – reducing demand for Canadian energy product in the US.
Source: EIA
2. Over the past decade the Canadian dollar has strengthened dramatically, and in spite of some temporary weakness during the financial crisis is still close to parity with the US dollar. This makes Canadian products more expensive on a relative basis.
Number of Canadian dollars per one US dollar (USD/CAD)
3. As discussed before (see post), Canada’s housing market may be facing some headwinds going forward. Valuations have materially outpaced those in the US. There is a great deal of debate on this topic, but it’s quite clear that Canadians have been pumping significant capital (materially higher than 6% of GDP) into residential housing over the recent years – even as the US housing expenditures collapsed.
Source: DB
4. Over the past decade Canada’s manufacturing labor costs have sharply outpaced those in the US, making Canadian firms less competitive.
Canadian unit labor costs: blue, US unit labor costs: red
5. Mexico, with its cheaper labor and a growing manufacturing base, is increasingly taking Canada’s export share into the US.
Source: Deutsche Bank
6. Driven in part by the strength of the Canadian dollar as well as worsening labor competitiveness, Canada’s current account has been in the red for some time now. What’s particularly troubling is Canada’s deterioration of the current account outside of energy exports. The trend is making the nation increasingly reliant on its energy export just as the demand from the US declines.
Source: Deutsche Bank
These developments don’t bode well for Canada’s economic expansion in the near-term and for the valuation of the Canadian dollar in particular.
8 Comments
One might also consider the size of investment over the past few years on resource production and processing and whether that investment boom has flattened and is therefore now detracting from GDP growth or at least adding less to it than previously.
There is concern in Australia that the huge investment in the mining industry has or will soon reach a peak and that employment in the project planning areas is already washing off and that soon the construction phase will also retreat. The states in Australia that are not strong in mining are probably already in recession, partly through spending cuts at the state level and largely through the impacts of the high currency (AUD in our case). Canada has the same problems of a high currency and Dutch disease.
Terms of trade have fallens about 5% in Australia and commodity prices have fallen particularly for coal. Iron ore fell and had rebounded but is expected to ease again as more production capacity comes on stream. Is Canada suffering the same problem of falling commodity prices and and falling terms of trade?
I’m really surprised that the rapidly slowing growth in household credit was not mentioned here. In fact it’s at a growth rate that’s been associated with recessions in the past except, remarkedly so, the one in ’08/’09 in which Canadians just continued to leverage up throughout. It’s the reason the recession was so shallow here and why Canadian banks are the “strongest” in the world.
http://credit.bankofcanada.ca/householdcredit
Is there a similar story in Australia? How about the UK? (re: household credit).
This is a good post. I can’t really disagree with any of his points. Canada is certainly due for some under-performance. However, it does tend to follow the US pretty closely. If the US recovery continues apace, Canada should do OK.
If labor costs have risen (because they invested mostly in productive assets like they did), canadiands are richer not poorer. If they cut their wages, like the americans, they become poorer but if their CB does QE to infinity, targeting the stock market, they will be illusinary richer like the americans. One day this madness will end.
The BOC does what I feel is a stealth QE. They announced over a year ago that they would purchase up to 20% of Canada bonds. This was an increase from the previous 15% policy.
No one seems to track BOC balance sheet as Canada is only 3% of world economy I guess.
It has certainly been peculiar to see TSX lag S$P. If we supply resources to other countries and these countries are having a stock boom due to all the corporate profits, where are these profits coming from if they are not buying the basic resources?
Those that want to follow Canadian housing with a bit of humour can follow greaterfool.ca Garth Turner was a former Harper minister that was booted from caucus for not using the same script.
Canada’s solution to their growing housing bubble is to tighten loan criteria while keeping rates low. They idea is to not force homeowners to sell, and keep buyers from buying, with the goal of avoiding a collapse. Good luck with that.
Canada was correlated with us – but they delayed their downturn by 4 years, so my guess is they have a solid 3 years of trouble ahead of them.
Another thing to note – since our two stock markets ran in lock step, but now we’re up and they’re not, I think you can tell where we would be without our stimulus. What will likely happen is the divergence will continue… until one day our current policies catch up to us and we drop again, and their recovery begins.
Looks like QE on steroids (US) vs QE ultralite (Canada)
CRB and Raw materials indexes sinking like a stone.
Another dose of false prosperity courtesy of central banking.