Economists say Ottawa must pull more levers to fix the economy
Looming economic challenges on the horizon, including softening business investment, a dip in consumer confidence and the persistently high household debt-to-income ratio should be sufficient reasons for the Bank of Canada to cut interest rates, some economists say.
“We are in the throes of not just a slowdown, but a shift to an economy that has essentially stalled out, even though it might not be a recession in the classical sense of the word,” said David Rosenberg, who runs his independent research firm, Rosenberg Research and Associates Inc., and has been bearish on the Canadian economy for some time.
“Lowering interest rates will weaken the Canadian dollar and give a competitive boost to the business sector,” he added.
In comments made Wednesday morning in the wake of the Bank’s move to hold interest rates steady, Canada’s central bank governor Stephen Poloz hinted he would consider an interest rate cut, given weakening economic data across various parts of the economy over the past few months.
“I’m not saying that the door is not open to an interest rate cut, obviously it is, it is open,” Poloz told reporters.
The central bank also slashed its forecast for fourth-quarter annualized growth to 0.3 per cent from 1.3 per cent in October, and pegged first-quarter growth at 1.3 per cent.
Poloz — who will step down from his position in June — has been a holdout among major central bankers. He has resisted a rate cut because of Canada’s high debt levels, in particular real estate debt, which deepened thanks to the low interest rates of the post-crisis decade.
The pace of economic growth in Canada dipped in the third quarter of 2019, due in part to declining exports of non-metallic minerals and agricultural products. But in that same time frame, business investment rose, a key data point for the Bank in determining the extent to which monetary levers should be exercised.
“Much of the Governing Council’s deliberations focused on how persistent this recent slowdown in the domestic economy might be,” the Bank of Canada said in a statement on Wednesday’s interest rate decision. “Some growth indicators were affected by temporary factors, including an early winter on the Prairies, pipeline shutdowns and strikes,” it read.
Ontario and Quebec, on the manufacturing side, are going to be challenges
Brett House, deputy chief economist, Scotiabank
Analysts will now be poring over details of retail sales from Statistics Canada on Friday to gauge consumer sentiment.
“Retail sales takes on even more importance … given the concern about a slowdown in consumption,” Ian Pollick, head of North American rates strategy at Canadian Imperial Bank of Commerce, said in a note to investors, and added that he now believes there is a 75 per cent chance of a rate cut in the first half of the year. “Specifically, it would appear that the Governing Council remains very concerned that consumption — a pillar of resilience — might be more overtly impacted than initially believed.”
Scotiabank’s deputy chief economist Brett House believes there will be two rate cuts in 2020, but that they won’t set off a new round of borrowing.
“We have been forecasting cuts in 2020 for about seven to eight months now. Much of the borrowing has already taken place this year; that horse has already left the barn. I think if you’re going to see borrowing, it will be from small and medium-size businesses that want to lower their costs,” said House.
But given that Canada’s interest rate stands at 1.75 per cent, there is less manoeuvring room for the bank, according to Finance Minister Bill Morneau, who thinks fiscal policy needs to play a greater role in addressing economic challenges.
“I think we have to be realistic” about expectations of central banks, Morneau said in an interview with Bloomberg TV. “Their ability to be effective … is different than it was in the last real challenge.”
Canada is managing its “fiscal framework very well,” which makes it resilient, Morneau added.
Despite a boost in business investment late last year, Canada is most certainly going to experience slower growth in 2020, especially in sectors that are trade exposed, like manufacturing, says TD’s senior economist Brian DePratto. “Ontario and Quebec, on the manufacturing side, are going to be challenges,” he said.
DePratto also believes that a rate cut in 2020 could be on the horizon, but also that it would only serve to solve economic trials in the short term.
“Rate cuts create issues down the road. The evolution of debt levels in this country and concerns about financial stability are echoes of past policy decisions. A happier mix would be giving the government a fair bit of spending room where you are not relying just on the household sector to push things forward,” DePratto said.
Scotiabank’s House points out that prudent fiscal policy on the part of the Canadian government should involve strategies to not just temporarily stimulate the economy but also targeted measures to raise Canadian productivity and lower household debt such that long-term economic growth is sustained.
“There are lots of things the government could do. Increase housing supply in urban areas. Greater spending on affordable child care. Interprovincial trade has to be part of the story as well … we are the only G7 country with free trade agreements where it is still relatively difficult to trade within our own provinces,” he said.
For Rosenberg, who regards sky-high household debt levels as the economy’s biggest problem, the federal government could do just one more thing in tandem with an interest rate cut: lower taxes.
“The fiscal response should not be increasing spending, it should be broad-based tax cuts that are geared towards low and middle-income households to ease the debt-servicing burden,” he said.
“But here’s the problem with the current government in Ottawa: they think that spending money is going to be the panacea instead instead of cutting taxes,” Rosenberg added.
Mario Iacobacci, partner at Deloitte’s Economics Advisory Group, was one of the few economists who took a more optimistic view of the state of the Canadian economy.
“The reality is, we remain close to full employment and we are operating at capacity in most parts of the country and in most industries. We suspect that the Bank will stick to current rates for the rest of the year, because there are no signs of a persistent slowdown yet,” he said.