The slowdown that the Canadian economy experienced in the final months of 2018 and the first part of 2019 seems to be over. Statistics Canada reported this morning that real GDP grew by a better-than-expected 0.3 percent in April, following a 0.5 percent rise in March. This has prompted at least one Bay Street analyst to predict that the second quarter as a whole could see GDP rising at an annualized rate near 2.5 percent, after annualized growth well below 1 percent in both Q4/2018 and Q1/2019.
While the headline number was good, many of the details were less positive. Retail trade was slightly lower in April, which is surprising in light of the prodigious strength in employment already reported for the month. Ominously, manufacturing output also fell in the month, mainly as a result of shutdowns in the automotive sector. The 0.8 percent decline posted in April was the worst in almost two years.
The relative sluggishness in manufacturing output, against the background of continuing strong growth in the major market for Canadian manufactures (the United States) is just one cause for concern about the growth outlook beyond the immediate term. In particular, the auto sector appears to be in retrenchment mode all around the world, with reports of plant closings and mass redundancies an almost daily occurrence. The historic GM plant in Oshawa, Ontario has already fallen victim to this, and several other plants in Canada seem to be on borrowed time. The controlled implosion of the aerospace divisions of Bombardier Inc will also lead to a significant loss of jobs in the coming months.
The ramifications of the Trump-inspired trade wars are starting to have a noticeable impact. Canada has been sideswiped by the US government's paranoia about Huawei. The company's CFO is currently under house arrest in Vancouver awaiting a hearing on a flimsy extradition charge brought by the US. In response China is tightening the screws on trade with Canada, with the latest move being a ban on imports of Canadian pork and beef, announced this past week. This will have a measurable impact on growth in Q3 and beyond unless a diplomatic solution can be found.
Adding to problems for the trade sector generally is the rise in the Canadian dollar. At the start of the year most analysts' expectations were for the currency to trade sideways-to-lower. However, it has been strengthening in recent weeks as markets reassess the relative policy courses of the Bank of Canada and the Fed. The latter may be poised to cut rates sometime in the next few months, but with headline inflation now well above target at 2.7 percent, will the Bank of Canada dare to follow suit? Expectations that the Bank will have to hold off on matching the Fed have led to forecasts that the currency could move as high as 80 cents (US) later in the year.
Much can change. Trade tensions with China could ease; inflation could start to move back towards the 3 percent target. As things stand, however, it seems that if the economy has indeed posted 2.5 percent growth for Q2 -- which we won't know until late August -- that could well turn out to be the best result we shall see all year.
Friday 28 June 2019
Monday 24 June 2019
One thing leads to another
After
last week's FOMC meeting, the US Federal Reserve clearly signalled
that it was seriously considering cutting interest rates, something
that would have been unthinkable just a few months ago. That
wasn't enough for Donald Trump, who launched another
Twitter tirade against
Fed Chair Jerome Powell this morning, saying that the Fed "blew
it" by not heeding his (Trump's) calls for lower rates.
As
the linked article suggests, it's not just Trump that is trying to
put pressure on the Fed to ease. Financial markets are doing so
as well. It's interesting to consider what's happening here.
Despite the Fed's rate hikes over the past two years, US rates are
well below "normal" levels. The economy is still
growing and employment is rising, albeit a little more slowly than
before, dropping the unemployment rate to the lowest in memory.
So why would anyone on Wall Street think that rate cuts, which might
well cause the economy to overheat, are appropriate at this time?
The
answer, of course, is Trump's trade wars with just about everyone.
There is now a growing fear among investors that tariff battles
against China, and potentially also Mexico, the EU and Japan, could
well push the US into a recession in 2020. That would, of
course, be bad news for Trump's re-election prospects, which now seem
to be the only thing he cares about. The possibility of an
untimely slowdown seems to have wormed its way into Trump's cranium,
prompting him to call on the Fed to bail out the economy -- and his
electoral chances.
In
short, what we see here is Trump, having put the decade-long
expansion at risk with his insane trade strategies, now looking to
bounce the Fed into a potentially risky bout of renewed monetary
stimulus. As with so many facets of this administration,
one bad decision is begetting another.
Wednesday 19 June 2019
On the up-and-up
Canadian CPI data for May, released by Statistics Canada this morning, suggest that the Bank of Canada is going to face some interesting policy decisions in the coming months. Headline CPI rose 2.4 percent year-on-year in the month, up from a 2.0 percent increase in April. All eight sub-components of the index were higher in the month, but the key driver of the increase in the headline figure was a leap in food prices, largely the result of supply issues. Gasoline prices fell in the month: if that important commodity is excluded, the year-on-year increase in CPI stands at 2.7 percent.
In looking ahead, it's worth focusing on the food and energy components of the index. If, as StatsCan suggests, the rise in food prices was caused by weather-related supply issues, it is reasonable to expect some pullback in the next few months. What about gasoline? The roller coaster ride of headline CPI over the past year has been heavily influenced by gas prices, which rose very sharply in mid-2018, but have since fallen back. For now gas prices across Canada remain stable, and so will likely act as a restraint on headline CPI for June. However, if tensions continue to ratchet up in the Middle East, it would not take very long for the impact to be felt at the consumer level in Canada.
The Bank of Canada's core inflation measures show a somewhat more subdued picture. One of the three measures -- 'CPI common" -- has remained unchanged at 1.8 percent for the past few months, but the other two are moving higher. If we follow the usual practice of averaging the three measures, we find a mean of 2.1 percent in May, up from 1.9 percent in April. This is hardly an inflationary breakout, but it will certainly have the Bank's attention.
From a policy standpoint, today's numbers are unhelpful for the Bank. Although it is convinced that the "slow patch" in the economy is ending, the data, apart from employment, have yet to fully bear this out. It would be an exaggeration to exhume the old term "stagflation" to describe the current state of the Canadian economy, but a combination of slow growth and rising inflation is not an easy one for policy-makers to handle.
What makes the Bank's task more problematic is that the rate outlook for the United States seems to be in flux. Both Donald Trump and the equity markets seem to be fearful, for different reasons, of a slowdown in the US economy in 2020, and are looking to the Fed to ease policy in order to prevent such an outcome. The Fed may not immediately respond, but it's clearly listening. Any cut in the Fed funds rate in the next few months would leave the Bank of Canada facing a very awkward decision.
In looking ahead, it's worth focusing on the food and energy components of the index. If, as StatsCan suggests, the rise in food prices was caused by weather-related supply issues, it is reasonable to expect some pullback in the next few months. What about gasoline? The roller coaster ride of headline CPI over the past year has been heavily influenced by gas prices, which rose very sharply in mid-2018, but have since fallen back. For now gas prices across Canada remain stable, and so will likely act as a restraint on headline CPI for June. However, if tensions continue to ratchet up in the Middle East, it would not take very long for the impact to be felt at the consumer level in Canada.
The Bank of Canada's core inflation measures show a somewhat more subdued picture. One of the three measures -- 'CPI common" -- has remained unchanged at 1.8 percent for the past few months, but the other two are moving higher. If we follow the usual practice of averaging the three measures, we find a mean of 2.1 percent in May, up from 1.9 percent in April. This is hardly an inflationary breakout, but it will certainly have the Bank's attention.
From a policy standpoint, today's numbers are unhelpful for the Bank. Although it is convinced that the "slow patch" in the economy is ending, the data, apart from employment, have yet to fully bear this out. It would be an exaggeration to exhume the old term "stagflation" to describe the current state of the Canadian economy, but a combination of slow growth and rising inflation is not an easy one for policy-makers to handle.
What makes the Bank's task more problematic is that the rate outlook for the United States seems to be in flux. Both Donald Trump and the equity markets seem to be fearful, for different reasons, of a slowdown in the US economy in 2020, and are looking to the Fed to ease policy in order to prevent such an outcome. The Fed may not immediately respond, but it's clearly listening. Any cut in the Fed funds rate in the next few months would leave the Bank of Canada facing a very awkward decision.
Saturday 15 June 2019
A Laffer minute
The fifteen minutes of fame for Arthur Laffer and his pet theory, the Laffer Curve, were a long, long time ago. I was only dimly aware that he was still alive (he's 78). But then this past week, Donald Trump announced that he would be awarding Laffer the Presidential Medal of Freedom, calling him "one of the most influential economists in American history". This is not an assessment most economists would share.
Laffer's claim to fame (among Republicans) or infamy (among economists) rests solely on the Laffer Curve. The folk tale is that Laffer drew it on a napkin for President Gerald Ford in an effort to convince him that cutting direct tax rates would actually lead to an increase in government revenues. This lengthy Wikipedia article is a reasonable summary.
It's arguable that the Laffer curve, or at least the work Laffer himself has done on it, isn't really economics at all. Two points on the curve are trivially true: if tax rates are zero, revenue will be zero (duh), and if tax rates are 100 percent revenues will again be zero, because nobody will go to work solely to hand over all their earnings to the taxman. There's also a third observable number: we know at any time how much money is raised at current tax rates, but all we can definitively know from that is that at some point between zero and 100 percent tax rates, some taxes are definitely paid.
Laffer seemingly wanted Gerald Ford to believe that tax cuts would always raise revenues and higher tax rates would always reduce them. A real economist, having come up with the bare bones of the idea, would have tried to find ways to test it against empirical data. That was never Laffer's plan, perhaps not surprisingly when you consider what actual empirical research -- you know, economics, -- has found out.
As the Wikipedia summary suggests, research studies have found that the revenue-maximizing direct taxation rate is somewhere in the range of 65-70 percent! Only above that level do disincentive effects outweigh the higher tax rate and lead to a loss in revenue. These rates are so far above the marginal tax rates now prevailing in the United States that it's ridiculous to suggest that cutting taxes will boost government revenues. Unsurprisingly, the tax cuts implemented under Donald Trump, at the urging of Arthur Laffer and his ilk, have pushed the Federal Government precipitously toward the largest budget deficits in its history, at a time when steady growth in the economy would have been expected to lead to an improving fiscal position.
Laffer was on the morning talk show circuit this past week basking in his newly-found glory. As usual he simply denied the facts about the impact of the policies he advocates, without offering a shred of evidence to the contrary. I suppose pushing the US toward bankruptcy makes you an influential economist all right, but not in any sense that should get you a Presidential Medal.
Laffer's claim to fame (among Republicans) or infamy (among economists) rests solely on the Laffer Curve. The folk tale is that Laffer drew it on a napkin for President Gerald Ford in an effort to convince him that cutting direct tax rates would actually lead to an increase in government revenues. This lengthy Wikipedia article is a reasonable summary.
It's arguable that the Laffer curve, or at least the work Laffer himself has done on it, isn't really economics at all. Two points on the curve are trivially true: if tax rates are zero, revenue will be zero (duh), and if tax rates are 100 percent revenues will again be zero, because nobody will go to work solely to hand over all their earnings to the taxman. There's also a third observable number: we know at any time how much money is raised at current tax rates, but all we can definitively know from that is that at some point between zero and 100 percent tax rates, some taxes are definitely paid.
Laffer seemingly wanted Gerald Ford to believe that tax cuts would always raise revenues and higher tax rates would always reduce them. A real economist, having come up with the bare bones of the idea, would have tried to find ways to test it against empirical data. That was never Laffer's plan, perhaps not surprisingly when you consider what actual empirical research -- you know, economics, -- has found out.
As the Wikipedia summary suggests, research studies have found that the revenue-maximizing direct taxation rate is somewhere in the range of 65-70 percent! Only above that level do disincentive effects outweigh the higher tax rate and lead to a loss in revenue. These rates are so far above the marginal tax rates now prevailing in the United States that it's ridiculous to suggest that cutting taxes will boost government revenues. Unsurprisingly, the tax cuts implemented under Donald Trump, at the urging of Arthur Laffer and his ilk, have pushed the Federal Government precipitously toward the largest budget deficits in its history, at a time when steady growth in the economy would have been expected to lead to an improving fiscal position.
Laffer was on the morning talk show circuit this past week basking in his newly-found glory. As usual he simply denied the facts about the impact of the policies he advocates, without offering a shred of evidence to the contrary. I suppose pushing the US toward bankruptcy makes you an influential economist all right, but not in any sense that should get you a Presidential Medal.
Saturday 8 June 2019
Employment trends diverging?
After the Canadian economy added a record 106,500 jobs in April, most analysts expected a significantly softer outcome in May. Going into yesterday's announcement, the consensus expectation was for just 5000 new jobs in the month.
In the event, the actual number was significantly stronger than that -- 27,000 additional jobs, with the unemployment rate falling to 5.4 percent, the lowest level since the series began in 1976. In the past twelve months the economy has added 453,000 jobs, a 2.4 percent increase, with two-thirds of the new positions being full-time. That marks the strongest 12-month rise in employment since 2003. Moreover, after seeming to stagnate around the turn of the year, wages have started to move higher again, rising 2.8 percent in the year to May, well above the rate of CPI inflation.
Some of the details of the report are puzzling. Paid employment in the public and private sectors actually fell by more than 30,000 in the month, with the overall employment gain entirely driven by a surge of 62,000 in the number of self-employed workers. This series has shown surprising month-to-month volatility in the past, and no trend can be extrapolated from the latest data. In addition, the fall in the headline unemployment rate was heavily influenced by a surprising drop of 50,000 in the labour force, something that would not be expected to happen when job opportunities appear to be so abundant. Although the overall employment picture remains strong, the details of the report mean that the possible impact of the data on the direction of interest rates remains unclear.
By way of contrast, the Bureau of Labor Statistics non-farm payrolls report for May was unexpectedly weak. The US economy added only 75,000 jobs in the month, well below the market expectation of a 185,000 increase. There were also significant downward revisions to the originally-reported employment gains for the preceding two months, which makes it unlikely that the May number is a one-off anomaly. May also saw some further slowing in the pace of wage growth, with the 12-month rise in earnings slipping to 3.1 percent from a post-crisis high of 3.4 percent set in March.
Some analysts are suggesting that the slowing trend of employment growth is evidence that the Trump tariff wars and threats are taking their toll on the domestic economy. A direct causal link is hard to establish, especially as manufacturing employment, presumably the most likely to be affected by tariffs, has continued to increase. However, there is no doubt that the data will add to the slowly mounting pressure on the Fed to consider easing policy -- something that Trump himself has regularly demanded.
A couple of months ago the Bank of Canada could feel relatively comfortable about its policy options. With the domestic economy lagging behind its US counterpart, it seemed likely that the Bank would be able to stand pat even as the Fed continued to edge US rates higher. That's no longer the case. If the Fed succumbs to the demand for lower rates, the Bank will find it hard to justify a matching move, given rising wage pressures and maybe some signs of upward pressure on inflation. It's an interesting and unexpected conundrum, especially with a federal election campaign underway, a time when the Bank prefers not to make policy changes.
In the event, the actual number was significantly stronger than that -- 27,000 additional jobs, with the unemployment rate falling to 5.4 percent, the lowest level since the series began in 1976. In the past twelve months the economy has added 453,000 jobs, a 2.4 percent increase, with two-thirds of the new positions being full-time. That marks the strongest 12-month rise in employment since 2003. Moreover, after seeming to stagnate around the turn of the year, wages have started to move higher again, rising 2.8 percent in the year to May, well above the rate of CPI inflation.
Some of the details of the report are puzzling. Paid employment in the public and private sectors actually fell by more than 30,000 in the month, with the overall employment gain entirely driven by a surge of 62,000 in the number of self-employed workers. This series has shown surprising month-to-month volatility in the past, and no trend can be extrapolated from the latest data. In addition, the fall in the headline unemployment rate was heavily influenced by a surprising drop of 50,000 in the labour force, something that would not be expected to happen when job opportunities appear to be so abundant. Although the overall employment picture remains strong, the details of the report mean that the possible impact of the data on the direction of interest rates remains unclear.
By way of contrast, the Bureau of Labor Statistics non-farm payrolls report for May was unexpectedly weak. The US economy added only 75,000 jobs in the month, well below the market expectation of a 185,000 increase. There were also significant downward revisions to the originally-reported employment gains for the preceding two months, which makes it unlikely that the May number is a one-off anomaly. May also saw some further slowing in the pace of wage growth, with the 12-month rise in earnings slipping to 3.1 percent from a post-crisis high of 3.4 percent set in March.
Some analysts are suggesting that the slowing trend of employment growth is evidence that the Trump tariff wars and threats are taking their toll on the domestic economy. A direct causal link is hard to establish, especially as manufacturing employment, presumably the most likely to be affected by tariffs, has continued to increase. However, there is no doubt that the data will add to the slowly mounting pressure on the Fed to consider easing policy -- something that Trump himself has regularly demanded.
A couple of months ago the Bank of Canada could feel relatively comfortable about its policy options. With the domestic economy lagging behind its US counterpart, it seemed likely that the Bank would be able to stand pat even as the Fed continued to edge US rates higher. That's no longer the case. If the Fed succumbs to the demand for lower rates, the Bank will find it hard to justify a matching move, given rising wage pressures and maybe some signs of upward pressure on inflation. It's an interesting and unexpected conundrum, especially with a federal election campaign underway, a time when the Bank prefers not to make policy changes.
Wednesday 5 June 2019
The incredible shrinking Bomber
Bombardier Inc has received so much Canadian taxpayer money over the years that it's practically a part of the public sector. Federal and Provincial (Quebec and Ontario) governments routinely justify each new handout by lauding the company as one of Canada's high-tech manufacturing champions.
That's becoming an increasingly implausible claim as the company sells itself off piecemeal. The latest division on the block is the regional jet (CRJ) division, once a big money-spinner but now a source of nothing but red ink as the order book dries up. Mitsubishi Heavy Industries is reportedly kicking the tires for a possible takeover of the division, though no deal has yet been concluded. Bombardier basically gave away its much-ballyhooed C-series jet program to Airbus Industrie last year, so it's likely that very soon Bombardier's once-sprawling aviation enterprise will be reduced to a maker of executive jets.
This would leave Bombardier as mainly a manufacturer of passenger rail equipment, which is somewhat ironic in itself, given the primitive nature of rail transportation in Canada. Is this much of a basis for an ongoing business? Well, consider that Bombardier is currently behind on deliveries on two contracts in Toronto (streetcars and light rail vehicles), with the company on the hook for liquidated damages in the case of the streetcar contract; it's behind on two contracts with Transport for London (trains for London Overground and Crossrail), with free travel for a month promised to London Overground users to compensate for the delays; it's behind on deliveries and paying out compensation on a contract with Swiss Railways; and it's been excluded from bidding altogether on a contract in New York because of serious doubts about its ability to perform.
It's almost always a good idea for conglomerates to take a hard look at their businesses once in a while and focus back on the things they're good at. The problem with Bombardier is that it doesn't actually seem to be very good at anything any more. More deadbeat than national champion, alas. It's hard to see how I and the rest of the taxpayers of Canada are ever going to see any return on our "investment" in the company.
UPDATE, June 7: Here's the Toronto Star's David Olive with his take on Bombardier. This sentence tells you all you need to know about Canada's biggest corporate welfare recipient: "Headquartered in Berlin, the company is among Canada’s few large multinationals..." The City of Kitchener, Ontario, was known as Berlin a century ago, but Olive is of course referring to the current capital of Germany.
That's becoming an increasingly implausible claim as the company sells itself off piecemeal. The latest division on the block is the regional jet (CRJ) division, once a big money-spinner but now a source of nothing but red ink as the order book dries up. Mitsubishi Heavy Industries is reportedly kicking the tires for a possible takeover of the division, though no deal has yet been concluded. Bombardier basically gave away its much-ballyhooed C-series jet program to Airbus Industrie last year, so it's likely that very soon Bombardier's once-sprawling aviation enterprise will be reduced to a maker of executive jets.
This would leave Bombardier as mainly a manufacturer of passenger rail equipment, which is somewhat ironic in itself, given the primitive nature of rail transportation in Canada. Is this much of a basis for an ongoing business? Well, consider that Bombardier is currently behind on deliveries on two contracts in Toronto (streetcars and light rail vehicles), with the company on the hook for liquidated damages in the case of the streetcar contract; it's behind on two contracts with Transport for London (trains for London Overground and Crossrail), with free travel for a month promised to London Overground users to compensate for the delays; it's behind on deliveries and paying out compensation on a contract with Swiss Railways; and it's been excluded from bidding altogether on a contract in New York because of serious doubts about its ability to perform.
It's almost always a good idea for conglomerates to take a hard look at their businesses once in a while and focus back on the things they're good at. The problem with Bombardier is that it doesn't actually seem to be very good at anything any more. More deadbeat than national champion, alas. It's hard to see how I and the rest of the taxpayers of Canada are ever going to see any return on our "investment" in the company.
UPDATE, June 7: Here's the Toronto Star's David Olive with his take on Bombardier. This sentence tells you all you need to know about Canada's biggest corporate welfare recipient: "Headquartered in Berlin, the company is among Canada’s few large multinationals..." The City of Kitchener, Ontario, was known as Berlin a century ago, but Olive is of course referring to the current capital of Germany.
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