3 Feb

No one benefits from Tariffs

General

Posted by: Jen Lowe

 

No one Benefits From Tariffs

 
Despite having negotiated the current trade agreement among the U.S., Mexico, and Canada during his first administration, Donald Trump broke the terms of that treaty on Saturday. He triggered a global stock market selloff after fulfilling his threat to impose tariffs on Canada, Mexico, and China. These levies are set to take effect Tuesday unless a last-minute deal is reached during Trump’s phone calls with the leaders of Canada and Mexico today. The European Union is next on Trump’s list for potential tariffs, and the EU has promised to “respond firmly” if this occurs.

 

Trump has imposed tariffs of 25% on goods coming from Mexico and Canada, 10% on Canadian energy, and 10% on goods from China. He justified these actions by claiming they would force Mexico and Canada to address issues related to undocumented migration and drug trafficking. However, while precursor chemicals for fentanyl come from China and undocumented migrants enter through the southern border with Mexico, Canada accounts for only about 1% of both issues.

 

The affected countries are preparing their responses. Canada has launched a crisis plan reminiscent of its response to the COVID-19 pandemic, while Mexican President Claudia Sheinbaum has developed a “Plan B” to protect her country. In contrast, China’s response has been more subdued. It pledged to implement “corresponding countermeasures” without providing further details.

 

The Wall Street Journal, typically considered a conservative publication, criticized Trump, labeling this as the “dumbest trade war in history.” The Journal stated, “Mr. Trump sometimes sounds as if the U.S. shouldn’t import anything at all, that America can be a perfectly closed economy making everything at home. This is called autarky, and it isn’t the world we live in or one that we should want to live in, as Mr. Trump may soon find out.”

 

Trump inherited a strong economy from his predecessor, President Joe Biden. However, as White House Press Secretary Karoline Leavitt confirmed Trump’s decision to levy the tariffs on Friday, the stock market plunged. Trump, who previously insisted that tariffs would boost the economy, acknowledged today that Americans might experience “SOME PAIN” due to the tariffs. He added, “BUT WE WILL MAKE AMERICA GREAT AGAIN, AND IT WILL ALL BE WORTH THE PRICE THAT MUST BE PAID.”

 

Trump has admired tariffs and often praises President McKinley for his extensive tariff impositions. After 450 amendments, the Tariff Act of 1890 raised average import duties from 38% to 49.5%. McKinley, known as the “Napoleon of Protection,” increased rates on some goods while lowering them on others, always aiming to protect American manufacturing interests. His presidency saw rapid economic growth, bolstered by the 1897 Dingley Tariff, which aimed to shield manufacturers and factory workers from foreign competition.

 

While Trump claims the McKinley tariffs made the U.S. a global economic leader, other factors contributed to this outcome. During the late 19th century, U.S. immigration surged, and American entrepreneurs learned from Britain’s best practices, which was then the world leader in technological advancement.

 

Consider the U.S. auto industry, which operates as a North American entity due to the highly integrated supply chains across the three countries. In 2024, Canada supplied nearly 13% of U.S. auto parts imports, while Mexico accounted for almost 42%. Industry experts note that a vehicle produced on the continent typically crosses borders multiple times as companies source components and add value most cost-effectively.

 

This integration benefits everyone involved. According to the Office of the U.S. Trade Representative, the industry contributed more than $809 billion to the U.S. economy in 2023, representing about 11.2% of total U.S. manufacturing output and supporting 9.7 million direct and indirect U.S. jobs. In 2022, the U.S. exported $75.4 billion in vehicles and parts to Canada and Mexico. According to the American Automotive Policy Council, this figure rose by 14% in 2023, reaching $86.2 billion.

 

Without this trade, American car makers would struggle to compete. Regional integration has become an industry-wide manufacturing strategy in Japan, Korea, and Europe. It aims to leverage high-skilled and low-cost labour markets to source components, software, and assembly.

 

As a result, U.S. industrial capacity in automobiles has grown alongside an increase in imported motor vehicles, engines, and parts. From 1995 to 2019, imports of these items rose by 169%, while U.S. industrial capacity in the same categories increased by 71%. Thousands of well-paying auto jobs in states like Texas, Ohio, Illinois, and Michigan owe their competitiveness to this ecosystem, which relies heavily on suppliers in Mexico and Canada.

 

Tariffs will also disrupt the cross-border trade of agricultural products. In fiscal 2024, Mexican food exports represented about 23% of U.S. agricultural imports, while Canada supplied approximately 20%. Many leading U.S. growers have relocated to Mexico because of regulatory limits and economic advantages. Unless a last-minute deal is reached during Trump’s calls with the leaders of Canada and Mexico today. The European Union is next on its list for potential tariffs, and the EU has promised to “respond firmly” if this occurs.

Trump slapped tariffs of 25% on goods from Mexico and Canada, 10% on Canadian energy, and 10% on goods from China. He said he was doing so to force Mexico and Canada to do more about undocumented migration and drug trafficking. Still, while precursor chemicals to make fentanyl come from China and undocumented migrants come over the southern border with Mexico, Canada accounts for only about 1% of both.

 

The countries affected by the tariffs are also preparing their defences. Canada has launched a crisis response that parallels the COVID pandemic, while Mexican President Claudia Sheinbaum has developed a “Plan B” to protect her country. China’s reaction was more subdued. They pledged to implement “corresponding countermeasures,” though they did not provide further details.

The Wall Street Journal, hardly a bastion of progressive thought, lambasted Trump, saying this is the “dumbest trade war in history.” The Journal said, “Mr. Trump sometimes sounds as if the U.S. shouldn’t import anything at all, that America can be a perfectly closed economy making everything at home. This is called autarky, and it isn’t the world we live in or one that we should want to live in, as Mr. Trump may soon find out.”

Trump inherited the best economy in the world from his predecessor, President Joe Biden. However, on Friday, as soon as White House press secretary Karoline Leavitt confirmed that Trump would levy the tariffs, the stock market plunged. Trump, who during his campaign insisted that tariffs would boost the economy, said that Americans could feel “SOME PAIN” from them. He added, “BUT WE WILL MAKE AMERICA GREAT AGAIN, AND IT WILL ALL BE WORTH THE PRICE THAT MUST BE PAID.”

Trump loves tariffs and lauds President McKinley for his massive tariff imposition. After 450 amendments, the Tariff Act of 1890 increased average duties across all imports from 38% to 49.5%. McKinley was known as the “Napoleon of Protection,” and rates were raised on some goods and lowered on others, always trying to protect American manufacturing interests. McKinley’s presidency saw rapid economic growth. He promoted the 1897 Dingley Tariff to protect manufacturers and factory workers from foreign competition, and in 1900, secured the passage of the Gold Standard Act.

President Trump has said the McKinley tariffs made the US a global economic leader, but much else was responsible. Over the late 19th century, US immigration increased sharply. American entrepreneurs put a great store in the best practices of Britain, then the global leader in technological development.

The U.S. auto industry is  North American because supply chains in the three countries are highly integrated. In 2024, Canada supplied almost 13% of U.S. auto parts imports, and Mexico provided nearly 42%. Industry experts say a vehicle made on the continent crosses borders a half-dozen times or more as companies source components and add value in the most cost-effective ways.

Everyone benefits. The Office of the U.S. Trade Representative says that 2023 the industry added more than $809 billion to the U.S. economy, or about 11.2% of total U.S. manufacturing output, supporting “9.7 million direct and indirect U.S. jobs.” In 2022, the U.S. exported $75.4 billion in vehicles and parts to Canada and Mexico. According to the American Automotive Policy Council, that number jumped 14% in 2023 to $86.2 billion.

American car makers would be much less competitive without this trade. Regional integration is now an industry-wide manufacturing strategy employed in Japan, Korea, and Europe that aims to source components, software, and assembly from various high-skilled and low-cost labour markets.

The result has been that U.S. industrial capacity in autos has grown alongside an increase in imported motor vehicles, engines, and parts. From 1995 to 2019, imports of automobiles, engines, and parts rose 169%, while U.S. industrial capacity in cars, engines, and parts rose 71%. Thousands of good-paying auto jobs in Texas, Ohio, Illinois, and Michigan owe their competitiveness to this ecosystem, which relies heavily on suppliers in Mexico and Canada.

Tariffs will also cause mayhem in the cross-border trade of farm goods. In fiscal 2024, Mexican food exports comprised about 23% of U.S. agricultural imports, while Canada supplied some 20%. Many top U.S. growers have moved to Mexico because limits on legal immigration have made it hard to find workers in the U.S. Mexico now supplies 90% of avocados sold in the U.S.

Canadian Prime Minister Justin Trudeau has promised to respond to U.S. tariffs on a dollar-for-dollar basis. Since Canada’s economy is so small, this could result in a larger GDP hit, but American consumers will feel the bite of higher costs for some goods.

None of this is supposed to happen under the U.S.-Mexico-Canada trade agreement that Mr. Trump negotiated and signed in his first term. The U.S. willingness to ignore its treaty obligations, even with friends, won’t make other countries eager to do deals. Maybe Mr. Trump will claim victory and pull back if he wins some token concessions. But if a North American trade war persists, it will qualify as one of the dumbest in history.

Bottom Line

This is a lose-lose situation. Prices will rise in all three continental countries if the tariffs persist. While inflation is the first effect, we will quickly see layoffs in the auto sector and elsewhere. Ultimately, the Bank of Canada would be confronted with a recession and will ease monetary policy in response. Interest rates would fall considerably. The Canada 5-year government bond yield has fallen precipitously, down to 2.59%. In this regard, housing activity would pick up, similar to what we saw in 2021, with weak economic activity but booming housing in response to low mortgage rates.

I am still hopeful that an all-out trade war can be averted. There is room to negotiate. As stated by Rob McLister, “Trump underestimates the global revolt against this move, and that’s another reason why these tariffs may be measured in months, not years.” This will not be good for the US. Trump promised to reduce prices, yet sustained tariffs will undoubtedly cause prices to rise. Some of that increase will be absorbed by American importers and some by Canadian exporters anxious to maintain market share. Still, much of the tariff will be passed on to the American consumer in time. This, combined with a North American economic slowdown, will no doubt damage Mr. Trumps approval rating.
Courtesy of Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
29 Jan

Bank of Canada Cuts Overnight Lending rate to 3%

General

Posted by: Jen Lowe

Bank of Canada Cuts Policy Rate By 25 BPs
The Bank of Canada (BoC) reduced the overnight rate by 25 basis points this morning, bringing the policy rate down to 3.0%. The market had anticipated a nearly 98% chance of this 25 basis point reduction, and consensus aligned with this expectation. The Federal Reserve is also set to announce its rate decision this afternoon, where it is widely expected to maintain the current policy rate. As a result, the gap between the US Federal Funds rate and the BoC’s overnight rate has widened to 150 basis points. This discrepancy is largely attributed to stronger growth and inflation in the US compared to Canada. Consequently, Canada’s relatively low interest rates have negatively impacted the Canadian dollar, which has fallen to 69.2 cents against the US dollar. Additionally, oil prices have dropped by five dollars, now at US$73.61.

The Bank also announced its plan to conclude the normalization of its balance sheet by ending quantitative tightening. It will restart asset purchases in early March, beginning gradually to stabilize and modestly grow its balance sheet in alignment with economic growth.

The projections in the January Monetary Policy Report (MPR) released today are marked by more-than-usual uncertainty due to the rapidly evolving policy landscape, particularly the potential threat of trade tariffs from the new administration in the United States. Given the unpredictable scope and duration of a possible trade conflict, this MPR provides a baseline forecast without accounting for new tariffs.

According to the MPR projections, the global economy is expected to grow by about 3% over the next two years. Growth in the United States has been revised upward, mainly due to stronger consumption. However, growth in the euro area is likely to remain subdued as the region faces competitiveness challenges. In China, recent policy actions are expected to boost demand and support near-term growth, although structural challenges persist. Since October, financial conditions have diverged across countries, with US bond yields rising due to strong growth and persistent inflation, while yields in Canada have decreased slightly.

The BoC press release states, “In Canada, past cuts to interest rates have begun to stimulate the economy. The recent increase in both consumption and housing activity is expected to continue. However, business investment remains lackluster. The outlook for exports is improving, supported by new export capacity for oil and gas.

Canada’s labor market remains soft, with the unemployment rate at 6.7% in December. Job growth has strengthened in recent months after a prolonged period of stagnation in the labor force. Wage pressures, previously sticky, are showing some signs of easing.

The Bank forecasts GDP growth to strengthen in 2025. However, with slower population growth due to reduced immigration targets, both GDP and potential growth will be more moderate than previously anticipated in October. Following a growth rate of 1.3% in 2024, the Bank now projects GDP to grow by 1.8% in both 2025 and 2026, slightly exceeding potential growth. As a result, excess supply in the economy is expected to be gradually absorbed over the projection horizon.

CPI inflation remains close to the 2% target, though with some volatility stemming from the temporary suspension of the GST/HST on select consumer products. Shelter price inflation remains elevated but is gradually easing, as anticipated. A broad range of indicators, including surveys on inflation expectations and the distribution of price changes among CPI components, suggests that underlying inflation is near the 2% target. The Bank forecasts that CPI inflation will remain around this target over the next two years.

Aside from the potential US tariffs, the risks surrounding the outlook appear reasonably balanced. However, as noted in the MPR, a prolonged trade conflict would most likely result in weaker GDP growth and increased prices in Canada.

With inflation around 2% and the economy in a state of excess supply, the Governing Council has decided to further reduce the policy rate by 25 basis points to 3%. This marks a substantial (200 bps) cumulative reduction in the policy rate since last June. Lower interest rates are expected to boost household spending, and the outlook published today suggests that the economy will gradually strengthen while inflation remains close to the target. Nevertheless, significant and widespread tariffs could challenge the resilience of Canada’s economy. The Bank will closely monitor developments and assess their implications for economic activity, inflation, and monetary policy in Canada. The Bank is committed to maintaining price stability for Canadians.Nevertheless, significant and widespread tariffs could challenge the resilience of Canada’s economy. The Bank will closely monitor developments and assess their implications for economic activity, inflation, and monetary policy in Canada. The Bank is committed to maintaining price stability for Canadians.
Bottom Line

The central bank dropped its guidance on further adjustments to borrowing costs as US President Donald Trump’s tariff threat clouded the outlook.

Bonds surged as the market absorbed the central bank’s decision not to guide future rate moves. The yield on Canada’s two-year notes slid some four basis points to 2.79%, the lowest since 2022. The loonie maintained the day’s losses against the US dollar.

In prepared remarks, Macklem said while “monetary policy has worked to restore price stability,” a broad-based trade conflict would “badly hurt” economic activity but that the higher cost of goods “will put direct upward pressure on inflation.”

“With a single instrument — our policy rate — we can’t lean against weaker output and higher inflation at the same time,” Macklem said, adding the central bank would need to “carefully assess” the downward pressure on inflation and weigh that against the upward pressure on inflation from “higher input prices and supply chain disruptions.”

In the accompanying monetary policy report, the central bank lowered its forecast for economic growth in 2025 due to the federal government’s lower immigration targets. The bank expects the economy to expand by 1.8% in 2025 and 2026, down from 2.1 and 2.3% in previous projections. The central bank trimmed business investment and exports estimates but boosted its consumption forecast.

The bank estimated that interest rate divergence with the Federal Reserve was responsible for about 1% of the depreciation in the Canadian dollar since October.

We expect the BoC to continue cutting the policy rate in 25-bps increments until it reaches 2.5% this Spring, triggering continued strengthening in the Canadian housing market.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
21 Jan

Inflation Falls To 1.8% in December — looking positive for another rate cut next Wednesday

General

Posted by: Jen Lowe

Positive News On The Inflation Front
The Consumer Price Index (CPI) increased by 1.8% year-over-year in December, a slight decrease from the 1.9% rise in November. The main contributors to this slowdown were food purchased from restaurants and alcoholic beverages bought from stores. Excluding food, the CPI rose by 2.1% in December.

On December 14, 2024, a temporary GST/HST exemption on certain goods was introduced. The major categories affected by this tax break included food; alcoholic beverages, tobacco products, and recreational cannabis; recreation, education, and reading materials; as well as clothing and footwear.

On a monthly basis, the CPI dropped by 0.4% in December after remaining flat in November. However, on a seasonally adjusted basis, the CPI increased by 0.2%.

Prices decline for items impacted by the GST/HST break
Approximately 10% of the all-items Consumer Price Index (CPI) basket is affected by the tax exemption.

In December, Canadians paid less for food purchased from restaurants, experiencing a year-over-year decline of 1.6%. This marked the index’s first annual decrease and the largest monthly decline of 4.5%, attributed to the GST/HST break.

On a year-over-year basis, prices for alcoholic beverages purchased from stores fell by 1.3% in December, compared to a 1.9% increase in November. Monthly prices also dropped by 4.1%, nearly tripling the previous largest monthly decline for this series, which was recorded in December 2005 at 1.4%.

The prices for toys, games (excluding video games), and hobby supplies decreased by 7.2% year-over-year in December 2024, a significant drop from the 0.6% decline in November. Additionally, the index for children’s clothing fell by 10.6% in December compared with the same month in 2023.

The shelter component of the CPI grew at a slightly slower pace in December, rising by 4.5% year-over-year, following a 4.6% increase in November. Rent prices decelerated on a year-over-year basis in December, rising by 7.1% compared to a 7.7% increase in November. Since December 2021, rent prices have increased by 22.1%.

The mortgage interest cost index continued to slow for the 16th consecutive month, reaching an 11.7% increase year-over-year in December 2024, the smallest rise since October 2022, which was at 11.4%, as interest rates continued to climb.

Additionally, gasoline prices rose due to base-year effects, and consumers paid more for travel services.
The central bank’s two preferred core inflation measures stabilized, averaging 2.65% year over year in October and November. Both core inflation measures rose a solid 0.3% m/m in seasonally adjusted terms and have been up at a 3+% pace over the past three months. Excluding food and energy, the ‘old’ core measure dipped to 1.9% year over year, its first move below 2% in more than three years.

The central bank’s two preferred core inflation measures declined, averaging 2.55% y/y in December. Both core inflation measures dipped m/m in seasonally adjusted terms and are up at a 3+% pace over the past three months.
Bottom Line

The inflation report for December 2024 showed a downward distortion due to the sales tax holiday, which will also affect the data for January. However, this effect will reverse in the following months. Core inflation measures are concerning, as the three-month moving average of trimmed-mean and median inflation has risen above 3.0%.

This inflation report is sufficient for the Bank of Canada to cut the overnight rate by 25 basis points to 3.0% on January 29, the date of its next decision.

A significant question remains regarding the potential Trump tariffs, which have been postponed to allow federal agencies time to analyze the trade, border, and currency policies of China, Canada, and Mexico. Trump mentioned yesterday that a 25% tariff would be implemented by February 1. However, government agencies typically do not move that quickly. Moreover, Trump aims to maintain pressure on these countries to ensure a robust response on border control and to reduce China’s influence on manufacturing in Mexico and Canada. The new administration also wishes to prevent Mexico and Canada from selling strategically important products to China.

I believe Trump wants to renegotiate the free trade deal between the US, Canada, and Mexico. Canada has already pledged to tighten its borders and has rejected Trump’s claim that it is exporting fentanyl to the US. I do not expect 25% tariffs on Canada; even if they are imposed, there would likely be Canadian retaliation, making the tariffs short-lived. This is a significant threat.

Some have suggested that tariffs would compel the Bank of Canada to increase interest rates in order to combat inflation. While inflation might initially rise due to tariffs, the long-term effects would likely include layoffs and a marked slowdown in business and consumer spending, leading to increased unemployment. The Bank of Canada’s primary concern would be recession, not inflation.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
drsherrycooper@dominionlending.ca
17 Dec

Chrysta Freeland Resigns on the day of the Fall Economic Update

General

Posted by: Jen Lowe

 

Chrystia Freeland Resigns On The Day of The Fall Economic Statement

 
Finance Minister Freeland rocked markets today by submitting her resignation from Cabinet. Trudeau had asked her to take another Cabinet post, but she declined in a scathing letter accusing Trudeau of “costly political gimmicks” like “bribe-us-with-our-own-money cheques for $250 and a two-month GST holiday.

“Inevitably, our time in government will come to an end,” Ms. Freeland said, openly acknowledging what polls have been saying for over a year. “But how we deal with the threat our country currently faces will define us for a generation, and perhaps longer.”

The Federal deficit for 2023-2024 grows from $40 billion to $61.9 billion, partly boosted by a court settlement to pay funds to Indigenous children. The deficit far surpasses Freeland’s guardrail of $40.1 billion for last year’s budget deficit. New spending initiatives were announced amounting to $24 billion over the next six years. The most significant component is accelerated incentives to encourage business investment to improve productivity. This is very similar to a program issued by Finance Minister Frank Morneau years ago.

Dominic LeBlanc has been sworn in as the new Finance Minister. 
 

Bottom Line

Today’s Fall Economic Statement took a backseat to the news that Chrytia Freeland resigned. There is more talk of a Trudeau resignation and an early election. Liberals are suggesting that Trudeau has stayed on too long, likening him to Biden. The caucus is meeting at 5 PM today. 

 
Courtesy of Dr. Sherry Cooper
23 Oct

Jumbo Rate Cut by the Bank of Canada

General

Posted by: Jen Lowe

Bank of Canada Cuts Policy Rate By 50 BPs
After three consecutive 25 bp rate cuts, the BoC slashed the overnight rate by 50 bps this morning, bringing the policy rate down to 3.75%. The market had priced in 90% odds of a 50 bp move, where consensus coalesced. The combined slower-than-expected GDP growth and back-to-back weak inflation reports solidified the calls for a more significant move. The output gap continues to widen, countering the BoC’s forecast in July, pointing to an even more subdued inflation forecast. A 50 bp cut helps to offset that forecast miss by improving growth prospects faster. Even at 3.75%, monetary policy remains restrictive, as the chart shows below. The overnight rate is 145 bps above the September core inflation measure, and headline inflation moved below the 2% target.

We expect the policy rate to fall to 2.50% by the spring of next year. This morning’s 50 bp cut reinforces speculation of another 50 bp move in December. However, the Bank will likely need to see continued weak economic data and low inflation to prompt another big move. Wage growth remains stubbornly strong, and there might be some lingering concern about reigniting the housing market, especially with mortgage insurance rules poised to change on December 15.

However, the Bank pointed out that lower rates will trigger a rebound in the housing market. According to the Monetary Policy Report (MPR), “Resales and renovations are anticipated to recover as interest rates decline. Renovations should also be supported by a projected rise in house prices. Recent changes to government mortgage insurance rules are expected to bolster housing demand. Although population growth should ease, the level of demand is expected to remain robust and support new construction. Lower interest rates may also facilitate some increase in housing supply by easing financing costs. However, constraints on the amount of land available for new homes, zoning restrictions and a lack of skilled labour are expected to limit the pace of construction, particularly over the near term. As a result, growth in housing demand is expected to outpace increases in supply. Unlike other sectors of the economy that are experiencing excess supply, the housing market is projected to remain tight. House prices are expected to rise, but the pace of increases will likely be restrained because some home buyers will face affordability challenges”.

Effective tomorrow, the prime rate will fall to 5.95%, lowering floating-rate mortgage rates. According to Mortgage Logic News, the lowest nationally advertised 5-year fixed rate is down 10 bps this week to 4.09%.

In its policy statement, the Governing Council reduced its forecast for growth in the second half of this year to 1.75%. Third-quarter GDP growth was revised to 1.5% from 2.8% in the July MPR. Inflation has improved faster than expected, ending the year at 2.1%, with core inflation at 2.3% and falling further in 2025.
Bottom Line

Today’s action is great news for the Canadian economy and housing activity. Market participants are now expecting home resales to pick up sharply in the first quarter of next year. The coming spring housing season should be robust, boosting sales and prices.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
drsherrycooper@dominionlending.ca
17 Sep

More Good News On The Canadian Inflation Front

General

Posted by: Jen Lowe

More Good News On The Canadian Inflation Front

 

The Consumer Price Index (CPI) rose 2.0% year over year in August, the slowest pace since February 2021, and down from a 2.5% gain in July 2024. Core inflation measures averaged 2.35% y/y and excluding mortgage interest, headline inflation was a mere 1.2%–well below the Bank’s target inflation level of 2.0%. This opens the door for a possible acceleration in Bank of Canada easing. Governor Macklem has suggested that a 50 bp rate cut is possible if inflation falls too fast as unemployment rises.

The deceleration in headline inflation in August was due, in part, to lower gasoline prices, a combination of lower prices and a base-year effect. The decline in August 2024 was mainly due to lower crude oil prices amid economic concerns in the United States and slowing demand in China. Excluding gasoline, the CPI rose 2.2% in August, down from 2.5% in July.

Mortgage interest costs and rent remained the most significant contributors to the increase in the CPI in August. The mortgage interest cost index continued to rise at a slower pace year over year in August (+18.8%) for the 12th consecutive month after peaking in August 2023 (+30.9%).

The CPI fell 0.2% m/m in August after increasing 0.4% in July. Lower prices for air transportation, gasoline, clothing and footwear, and travel tours led to a monthly decline. The CPI rose 0.1% in August on a seasonally adjusted monthly basis.
The central bank’s two core inflation measures decreased, averaging a 2.35% yearly pace from 2.55% a month earlier, matching expectations. According to Bloomberg calculations, a three-month moving average of those measures fell to an annualized pace of 2.4% from 2.8% in July.

August marked the eighth month of headline rates within the central bank’s target range. 
 

Bottom Line

The inflation print is the first of two CPI reports before the Bank of Canada’s next rate decision on Oct. 23. After the data were released, overnight swaps traders upped their bets on a larger-than-normal reduction at that decision, putting the odds of a 50-basis point cut at just over a coin flip. Prices declined in five of eight subsectors every month, which could trigger worries about deflation among central bank officials if it becomes a trend. Macklem has recently said the bank cares as much about undershooting the 2% inflation target as it overshooting it.

Markets now suggest a 47% chance of a 50 bps BoC cut on October 23 and a 57% probability of a 25 bps cut. Next week’s GDP data and the October 15 CPI report loom large in the 25 versus 50 bps debate.

Further rate cuts will no doubt spur a housing recovery, though we suspect a shallow one initially due to affordability issues in Ontario and B.C. However, three new mortgage rule changes (effective December 15) could speed things along. The changes will allow all buyers to get a longer 30-year mortgage for a new build, first-time buyers to get a similar term for all properties (both new and old), and buyers to get an insured loan on a home priced up to $1.5 million (versus $1.0 million currently). The latter change will allow smaller down payments and lower borrowing costs than an uninsured loan. The 5-year extended term will lower monthly mortgage payments by about 9%.

 
Courtesy of Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

4 Sep

Bank of Canada cuts the overnight lending rate by another 0.25%

General

Posted by: Jen Lowe

Bank of Canada Cuts Rates Another Quarter Point
Today, the Bank of Canada cut the overnight policy rate by another 25 basis points to 4.25%. This is the third consecutive decrease since June. The Bank’s decision reflects two main developments. First, headline and core inflation have continued to ease as expected. Second, as inflation gets closer to the target, the central bank wants to see economic growth pick up to absorb the slack in the economy so inflation returns sustainably to the 2% target.Overall, the economy’s weakness continues to pull inflation down. However, price pressures in shelter and some other services are holding inflation up. Since the July Monetary Policy Report, the upward forces from prices for shelter and some other services have eased slightly. At the same time, the downward pressure from excess supply in the economy remains.

Tiff Macklem said today, “If inflation continues to ease broadly in line with the central bank’s July forecast, it is reasonable to expect further cuts in the policy rate. We will continue to assess the opposing forces on inflation and take our monetary policy decisions one at a time.”

The economy grew by 2.1% in the second quarter, led by government spending and business investment. This was slightly stronger than forecast in July. Together with the first quarter’s growth of 1.8%, the economy grew by about 2% over the first half of 2024. That’s a healthy rebound from our near-zero growth in the second half of 2023. The Bank’s July projection has growth strengthening further in the second half of this year. Recent indicators suggest there is some downside risk to this pickup. In particular, preliminary indicators suggest that economic activity was soft through June and July, and employment growth has stalled in recent months.

That makes this Friday’s Labour Force Survey data for August particularly important. We expect economic activity to slow in the third quarter to rough 1.3%, keeping the Bank in an easing posture through next year.

The unemployment rate has risen over the last year to 6.4% in June and July. The rise is concentrated in youth and newcomers to Canada, who find it more challenging to get a job. Business layoffs remain moderate, but hiring has been weak. The slack in the labour market is expected to slow wage growth, which remains elevated relative to productivity.

Turning to price pressures, CPI inflation eased further to 2.5% in July, and the central bank’s preferred measures of core inflation also moved lower. With the share of CPI components growing above 3% around its historical norm, there is little evidence of broad-based price pressures. But shelter price inflation is still too high. Despite some early signs of easing, it remains the most significant contributor to overall inflation. Inflation remains elevated in some other services but has declined sharply in manufacturing and goods prices.

As outlined in the Bank of Canada’s Monetary Policy Report, inflation is expected to ease further in the months ahead. It may bump up later in the year as base-year effects unwind, and there is a risk that the upward forces on inflation could be more potent than expected. At the same time, with inflation getting closer to the target, the central bank must increasingly guard against the risk that the economy is too weak and inflation falls too much. Judging from comments made at today’s press conference, the BoC is at least as concerned about too much disinflation–taking the economy into a deflationary spiral.

Macklem said, “We are determined to bring inflation down to the 2% target and keep it there. We care as much about inflation being below the target as we do about it being above it. The economy functions well when inflation is around 2%.”

With continued easing in broad inflationary pressures, the Governing Council reduced the policy interest rate by 25 basis points. Excess supply in the economy continues to put downward pressure on inflation, while price increases in shelter and some other services are holding inflation up. The Governing Council is carefully assessing these opposing forces on inflation. “Monetary policy decisions will be guided by incoming information and our assessment of their implications for the inflation outlook. The Bank remains resolute in its commitment to restoring price stability for Canadians”.
Bottom Line

Monetary policy remains restrictive, as the chart above shows. While the target overnight rate is now 4.25%, core inflation is only roughly 2.4%. Real interest rates remain too high for the economy to reach its potential growth pace of about 2.5%. Weaker growth implies a continued rise in unemployment and excess supply in other sectors.

In separate news, the US released data showing that US job openings fell to their lowest level since January 2021, consistent with other signs of slowing demand for workers.

US job growth has been slowing, unemployment is rising, and job seekers are having greater difficulty finding work, fueling fears about a potential recession.

Federal Reserve policymakers have made it clear they don’t want to see further cooling in the labour market and are widely expected to start lowering interest rates at their next meeting in two weeks.

In other news, consistent with a global economic slowdown, oil prices have plunged to new 2024 lows. Weak oil prices are a harbinger of lower inflation, growth and mortgage rates.

Bonds rallied in the wake of the disappointing US data, taking the 5-year government of Canada bond yield down to a mere 2.89%, well below the 3.4% level posted when the Bank of Canada began cutting interest rates in June. This decline in market-driven interest rates reduces fixed-rate mortgage yields. Moreover, today’s cut in the overnight rate will be followed soon by a 25 basis point reduction in the prime rate to 6.45%, reducing floating rate mortgage yields as well.

The Bank of Canada has two more decision dates this year: October 23 and December 11. At those meetings, the Bank is widely expected to continue its quarter-point rate cuts, taking the overnight rate down to 4.0% at year-end and 2.75% next year.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
15 Jul

Early Signs Of Renewed Life In June Housing Markets

General

Posted by: Jen Lowe

Early Signs Of Renewed Life In June Housing Markets
The Canadian Real Estate Association (CREA) announced today that national home sales rose 3.7% between May and June following the Bank of Canada’s rate cut. While activity was still muted, it wasn’t nearly as weak as the media recently portrayed.

“It wasn’t a ‘blow the doors off’ month by any means, but Canada’s housing numbers did perk up a bit on a month-over-month basis in June following the first Bank of Canada rate cut,” said Shaun Cathcart, CREA’s Senior Economist. “Year-over-year comparisons don’t look great mainly because of how many buyers were still jumping into the market last spring, but that’s a story about last year. What’s happening right now is that sales were up from May to June, market conditions tightened for the first time this year, and prices nationally ticked higher for the first time in 11 months”.
New ListingsThe number of newly listed properties rose 1.5% last month, led by the Greater Toronto Area and British Columbia’s Lower Mainland. As of the end of June 2024, there were about 180,000 properties listed for sale on all Canadian MLS® Systems, up 26% from a year earlier but still below historical averages of around 200,000 for this time of the year.

As the national increase in new listings was smaller than the sales gain in June, the national sales-to-new listings ratio tightened to 53.9% compared to 52.8% in May. The long-term average for the national sales-to-new listings ratio is 55%, with a sales-to-new listings ratio between 45% and 65%, generally consistent with balanced housing market conditions.

“The second half of 2024 is widely expected to see the beginnings of a slow and gradual return of buyers into the housing market,” said James Mabey, Chair of CREA. “Those buyers will face a considerably different shopping experience depending on where they are in Canada, from multiple offers in places like Calgary to the most inventory to choose from in over a decade in places like Toronto.

At the end of June 2024, there were 4.2 months of inventory nationwide, down from 4.3 months at the end of May. This was the first time that the number of months of inventory had fallen month over month in 2024. The long-term average is about five months of inventory.
Home Prices

The National Composite MLS® Home Price Index (HPI) increased by 0.1% from May to June. While a slight increase, it was noteworthy because it was the first month-over-month gain in 11 months. Regionally, prices are still generally sliding sideways across much of the country. The exceptions remain Calgary, Edmonton, and Saskatoon, and to a lesser extent Montreal and Quebec City, where prices have steadily increased since the beginning of last year.

That said, there have been more recent upward price movements in other markets, including across Ontario cottage country, Mississauga, Hamilton-Burlington, Kitchener-Waterloo, Cambridge, London-St. Thomas, and Halifax- Dartmouth.

The non-seasonally adjusted National Composite MLS® HPI stood 3.4% below June 2023. This mostly reflects how prices took off last April, May, June, and July – something that has not been repeated in 2024.
Bottom Line

Housing activity will gradually accelerate over the next year as interest rates continue to fall. Yesterday, bond yields fell considerably due to the marked improvement in the June US inflation data. Markets are now pricing in a 90% chance of a Federal Reserve rate cut in September, allaying fears that the Canadian dollar will decline precipitously if the Bank of Canada continues to go it alone in easing monetary conditions.

Next week’s CPI data will determine whether the Bank of Canada cuts rates at their July confab or waits until the September meeting. A further reduction in core inflation will open the doors to another rate cut on July 24, particularly given the continued rise in the Canadian unemployment rate. Rising monthly mortgage payments in the wake of record renewals will continue to slow discretionary consumer spending, providing further impetus for Bank of Canada rate cuts.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres
5 Jul

Canada’s Labour Market Slows– what does this mean for interest rates?

General

Posted by: Jen Lowe

Weaker-Than-Expected June Jobs Report Keeps BoC Rate Cuts In Play
Canadian employment data, released today by Statistics Canada, showed a marked slowdown, which historically would have been a harbinger of recession. This cycle, immigration has augmented the growth of the labour force and consumer spending, forestalling a significant economic downturn. Nevertheless, the Bank of Canada will continue to cut interest rates by at least 175 basis points through next year. Whether they do so at their next meeting on July 24 will depend on the June inflation data released on July 16.

Canada shed 1,400 jobs last month, following a 26,700 increase in May. Economists had been expecting a stronger showing. Monthly job gains have averaged around 30,000 in the past year, while labour force growth has been more than 50,000, causing the jobless rate to rise. Full-time jobs declined marginally while part-time work edged upward. Job losses in June were led by decreases in transportation and warehousing, information and recreation, and wholesale and retail trade.

Regionally, jobs decreased in Quebec but rose in New Brunswick and Newfoundland and Labrador.
Population growth isn’t likely to slow shortly, meaning that anything short of about a 45k employment gain will increase the jobless rate. The jobless rate rose to 6.4%, up two ticks from a month earlier and 1.6 percentage points above the July 2022 cycle low. It is also the highest level since 2017 (excluding the pandemic). The rising unemployment rate aligned with the Bank of Canada’s rhetoric that higher interest rates damaged the labour market and strengthened the case for further rate cuts to support the economy.
Total hours worked were down 0.4% in June. On a year-over-year basis, total hours worked were up 1.1%.

Average hourly wages among employees increased 5.4% in June on a year-over-year basis, following growth of 5.1% in May (not seasonally adjusted). This won’t sit well with the central bank’s Governing Council, but they realize that wage inflation is a lagging economic indicator, and rapidly rising unemployment will ultimately dampen wage inflation.

The data were released at the same time as US payrolls, which showed hiring moderated in June and prior months were revised lower. This boosts the odds that the Federal Reserve will begin to cut interest rates in the coming months. Fluctuations in the loonie are often driven by the difference between US and Canadian interest rates, owing to the two countries’ tight economic links.
Bottom Line

Traders in overnight swaps increased their bets that the Bank of Canada will cut borrowing costs again in July, putting the odds at around two-thirds, up from around 55% before the release.

In a speech last week, Macklem said it’s “not surprising” that wages are moderating more slowly than inflation because wages tend to lag the trend in job growth. He also said the unemployment rate could rise further, but a significant increase isn’t needed to get inflation back to the 2% target.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres