Alex Carrick: The Six Stepping Stones Explaining Canada’s Economic Ennui


The Bank of Canada’s mid-July press release on interest rates sets out the latest projections for gross domestic product growth in the country.

The figures are positive, but they lack flare: +2.1 per cent in 2012, +2.3 per cent in 2013 and +2.5 per cent in 2014.

When the economy is more relaxed and enjoying itself, real (i.e., inflation-adjusted) GDP advances in a range of +3.5 to +4.0 per cent.

In other words, the BOC is expecting growth at about half the rate we’d all like to see.

Why are the forecasts so conservative?

The explanation for the sluggishness lies in the interaction between the six key variables that determine how an economy will perform. Let’s examine each in turn. There is a logical path leading from one to the next and then back again.

There’s also a domestic-versus-foreign component to the factors influencing the economy at present. It can be said that the domestic influences are generally supportive of growth while the international ones are either acting negatively or standing neutral.

Inflation is where economic analysis begins. Too much or too little has a host of unpleasant implications.

Fortunately, the year-over-year general price level in Canada is almost exactly where the BOC wants it to be, around +2.0 per cent. Modest year-over-year inflation greases the wheels of commerce. Through payroll adjustments for wage and salary earners and standard product markups for businesses, nominal borrowings become easier to pay back as time rolls by.

Other cost patterns are providing support as well. Home prices in Canada, both for new and existing properties, are either flat or moving higher in most major centres. Knowing that one’s home is retaining its value provides a family with a foundation of confidence. This finds expression in a healthy level of consumer spending.

In one corner of the economy, there is an example of price moderation. Of course I’m speaking of gasoline. Again, the effect is to promote consumer spending. Purchases can proceed over a wider collection of goods and services than just basic transportation needs.

Low inflation is of primary benefit to the next economic driver on our list, interest rates. Because prices remain largely under wraps, the BOC is free to pursue its super-stimulatory monetary policy characterized by nearly record-low interest rates.

The Bank won’t admit as much, but it wants you to spend more freely. BOC Governor Mark Carney may have issued warnings about the dangers of the high debt-to-disposable-income ratio in the country. But why else would interest rates be held so low, if not to encourage loan activity?

I guess the BOC wants only responsible consumers to borrow and spend more wantonly. Hopefully, you know who you are.

The low interest rates are also crucial in promoting investment. They are a key reason residential real estate markets are so strong. Surging housing starts continue to surprise.

The condominium construction boom threatens to turn into a bust in some markets (e.g., Toronto), so specific mortgage-tightening measures have been introduced to let the air leak out of the bubble rather than blow it apart.

In non-residential construction markets, the low interest rates should be an incentive to proceed with projects as well. Instead, we come to the first of our detrimental outside influences on the Canadian economy.

Foreign trade has been grossly underperforming. Before the recession, Canada consistently ran a monthly annualized merchandise trade surplus of between $40 billion and $80 billion.

Since late 2008, the positive trade balance has evaporated. It now fluctuates in a fairly narrow range around zero dollars. In some ways (e.g., net job gains), the U.S. economy has been recovering more slowly than Canada, with certain sectors proving particularly bothersome. Moribund homebuilding south of the border has limited Canada’s forestry exports and new natural gas finds in shale rock have reduced American dependence on our fossil fuel reserves.

Moreover, Europe’s debt problems have ensnared the rest of the world. China’s export-oriented economy has been particularly affected. The backlash from reduced activity levels in Asia has meant lower demand for Canada’s raw materials.

As you might have anticipated, we’ve now moved on to the subject of commodity prices. The slowdown in the world economy has caused raw material prices to retreat from their most recent peaks. The price of oil has been especially vulnerable, falling under $80 U.S. per barrel before recovering back to about $90.

West Texas Intermediate had been as high as $110 per barrel when the fighting in Libya shut down production last spring and summer.

Commodity demand from the rest of the world, with a coincident impact on prices, drives raw material mega projects in Canada. For many resource property owners, previously announced investment plans have fallen under the shadow of a question mark.

Naturally enough, this leads into a discussion of variable number five, the value of our currency.

The Canadian dollar has gained a reputation for moving in step with the world price of oil. Except that’s not entirely the case at this time. Record levels of foreign capital are flowing into the country, providing lift to our “loonie”.

Canada is now among a limited number of countries considered to be a safe financial haven. Foreign investors can park their funds here without worry, while also earning some measure of return. The latter may not amount to much, but it’s better than nothing.

The annual payout on a 10-year Canadian bond has fallen to an all-time low near 1.60 per cent. For comparable U.S. Treasuries – the ultimate storehouse of wealth in the world – the rate is slightly less at 1.45 per cent.

On the international stage, consider that the benchmark rate for distressed countries in Europe has been 7.00 per cent. Once the long-term notes of Greece, Portugal, Ireland and Spain were forced above that threshold, speculators knew there would be the need for bailout funds.
Wavering commodity prices are being offset by capital inflow

to keep the value of the Canadian dollar close to parity with the greenback. The currency effect is having a relatively neutral impact on the outlook, neither helping nor hindering manufacturers to any great extent.

Our journey now ends with government spending, the sixth variable, which is also neutral to slightly negative at this time. In previous recoveries, fiscal policy was aligned with monetary policy to provide a double whammy of stimulus. This time, things are different.

Politicians no longer believe that spending beyond our means is a wise route to travel. They’ve come to a revelation. They’ve been visited in a dream by past debt, current debt and projected future debt – the latter so terrifying on account of a population that’s aging. The demands for social assistance in the decades ahead are sure to be staggering and must be tamed now.

There is a tangible pay-off from the reputation Canada has acquired as a fiscally responsible nation.

The fact the long-term interest rate is sitting at a record low serves us well. The cost to Ottawa and the provinces of borrowing has dropped dramatically. The math works to our advantage.

The time frames to bring our public sector deficits and debt back to where we’d like them to be – assuming no extraordinary side-trips back down profligacy road – have been greatly reduced.

The outlook for Canadian economic growth may be a colorless +2.0 per cent to +2.5 per cent for the period 2012 through 2014 as we await an improvement in conditions elsewhere around the world.

Once that transpires, though, the conclusion can only be that the economic ennui of today will be replaced by a much better frame of mind. 

Alex Carrick is Chief Economist with CanaData, a division of Reed Construction Data (RCD). CanaData is the leading supplier of statistics and forecasting information for the Canadian construction industry. RCD is a division of the global publishing firm, Reed Elsevier.

For more economic insight from RCD, please visit Mr. Carrick’s lifestyle blog is at and he would welcome a follow on Twitter (Alex_Carrick) or Facebook.