The Bank Of Canada On One Side And The Economy On The Other Side

The Canadian bank stocks have enjoyed a big rally this quarter, largely on the shoulders of the Bank of Canada (BoC)’s steadfastness in keeping its policy rate unchanged. More to the point, Governor Poloz in a recent speech said the economy overall is doing just fine and that monetary policy is “appropriate” to maintain this performance. He said Canadian monetary policy right now remains stimulative, eliminating any possibility of reducing the bank rate at its Dec. 4^th meeting. Earlier in the month, Deputy Governor, Carolyn Wilkins, identified a number of real challenges to the economy, especially from the international trade wars. The trade wars, in her scenario, could lead to credit events, especially in the corporate sector, that would have ramifications throughout all the financial markets. These issues, notwithstanding, she emphasized that the Canadian economy and its banking system is resilient enough to withstand what she refers to as“perfect storm”. Again, the BoC takes the position that Canada is in a “good place”, a phrase so often mentioned by central bankers these days.

This rather complacent outlook by the BoC seems to be at great odds with the underlying economic changes in Canada. Recent data remain on the weak side, resulting in the downgrading of the 4^th quarter GDP. TD Canada Trust now anticipates that GDP will come at very tepid 0.9% (q/q annualized) this quarter. We already have seen a steady decline in business investment in each quarter this year. Personal consumption data, such as retail sales, are not sufficiently strong to carry the economy while business investment slumps. The energy sector continues to suffer from low oil prices and Alberta’s economic performance will likely be a drag on the overall economy. Manufacturing is in recession, in sync with a worldwide decline in goods produced and traded.  Now, we have to add to this picture a nation-wide strike by CN rail which affects the energy, industrial, chemical and agricultural sectors. Canada has been running a significant trade deficit all year, and this deficit will worsen due to the rail strike since most of what is carried by rail is headed for export markets. Most likely, that forecast for the 4^th quarter will be a further downgrade should the strike continue. At the time of writing, there is no settlement on the horizon.                                                                                                                                                                                      

Even the BoC own forecasts for 2020 call for growth of just 1.5% which is precisely the growth in population. In other words, there is no productivity growth expected to lift the economy beyond the expansion to accommodate population growth. What has driven the economy is the stalwart of residential investment, a derivative of population growth, in the large metropolitan regions. Eventually, the weakness in the goods-producing sector will seep into services sector, the only sector expected to grow above the average 1.5%   The Canadian economy is far from being in a good place, as the major segments are clearly sputtering. For the time being, the BoC feels that no change is required. The longer it waits to shift course, the more dramatically will policy have to shift to combat a recession.