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Canadian economy cooling, not stalling, in 2007: TD Economics

5 minute read
By TD Bank Group
• Mar 26, 2007
TORONTO, March 26 /CNW/ - Canada's economic challenges are largely limited to the export-oriented manufacturing sector, rather than the domestic economy. As a result, Canadian economic growth will likely outperform that of its neighbor to the south in 2007. TD Bank's Chief Economist, Don Drummond, stated: "The Canadian economy isn't out of the woods yet, but we can see the tree line." The March issue of the TD Quarterly Economic Forecast states that the Canadian economy will expand at an annual average pace of 2.4 per cent in 2007, just mildly slower than in 2006. The report can be found at www.td.com/economics. The U.S., however, will see a more sizeable slowdown, as the housing market continues to soften. After the year-long contraction in housing, the recent deterioration in the sub-prime market was expected. "Worries over the Chinese stock market and U.S. sub-prime lending have led financial markets to internalize something we've been saying for over a year - global growth is moderating," said Don Drummond. "However, the bigger issue for the U.S. economy this year will be consumer's reluctance to spend, not their inability to find a loan. Stagnant home prices in the U.S. will limit home equity and make consumers less inclined to make big purchases now." Sub-prime Difficulties Should Not Have Come As a Surprise The housing market has been a drag on the U.S. economy for over a year and TD Economics expects to see that continue through the first nine months of 2007. "With fewer builders and buyers of homes, it was only a matter of time before mortgage lenders started to feel the pinch," said Drummond, who went on to explain that while the sub-prime lending issue has dominated the headlines, its impact on the economy should be minimal. The reason for this is two-fold. First, sub-prime lending makes up only 10 per cent of all U.S. mortgages. Of this, only a handful of lenders focused their business almost exclusively on this high-risk sector. Don Drummond added, "The lenders facing troubles now are the few that didn't follow the golden rules - diversify your portfolio and only take appropriate risk." Second, the tighter standards on mortgages have not led to less availability of credit card and other consumer lending. Since consumer spending accounts for over two-thirds of the economy, this is much more important. "Consumer credit is likely to tighten somewhat," said Drummond. "But it's probably been inappropriately loose up to this point. The key is that with uninterrupted job growth and further wage gains, consumer spending will moderate, but it won't fall off a cliff." External Demand for Canadian Goods Remains Weak - But Improving The vulnerable areas of the Canadian economy remain those with exposure to external demand. In particular, the budding recovery underway in the export sector will remain limited by softening U.S. demand. "Canadian exports are expected to grow faster in 2007 than last year, but they still bear the markings of a relatively soft sector," said Drummond. "However, as prospects in the U.S. economy improve later this year, so too will the fortunes of Canadian exporters and the Canadian economy." TD Economics expects the Canadian dollar to show little movement from its current level near 85 cents U.S. "Manufacturers are still adjusting to the elevated Canadian dollar, but they won't have to worry about new pressures coming from the loonie," said Drummond. Canadian Housing Market Shows Little Resemblance to U.S. TD Economics expects the pace of growth in Canadian home prices and new home starts will slow after their period of extended gains. "Home prices across Canada should grow around 5 per cent this year and next," said Drummond. The cooling in Canadian real estate is likely to be greatest in the West, but the level of housing activity will remain high across the entire country. "Canadian houses have four walls and a roof. The similarities with the U.S. housing market really end there," said Drummond. Within the Canadian housing market, TD Economics expects to see increased demand for home renovations. Strong home sales tend to become strong demand for renovation services with a lag of one to two years. "Homeowners won't reap the rapid appreciation in prices they've seen over the last couple of years, but may turn to renovations as a way to increase equity in their homes." The Canadian Economy is Cooling, Not Stalling Like the housing market, the rest of the domestic side of the Canadian economy is cooling to an average pace. This will help bring inflation down to the Bank of Canada's target level by the end of the year. "The Bank of Canada will remain vigilant, but we don't think they'll need to tinker with interest rates this year," said Drummond. "Despite weak growth in late 2006, the Canadian economy is still around full capacity so we believe that monetary conditions are about right." The manufacturing sector will continue to experience job losses, but the economy as a whole will see job growth in 2007 little changed from its 2006 pace. "The unemployment rate will increase from 6.1 to 6.3 per cent in 2007, but will remain near a generational low," said Drummond. Western Canada Catches a Quick Breath Western Canada will catch little more than a short breather, as a result of the mild and temporary economic slowdown. "China and India have 850 million people living in cities now. Over the next decade, migration from rural areas will add more than 300 million more - the equivalent of the entire U.S. population. Canadian commodity firms will continue to grow to meet that new global demand for some time to come," said Drummond. TD Economics expects commodity prices will be largely unchanged overall in 2007, although supply issues will drive some base metal prices down, while renewed economic activity will drive other prices like lumber and oil up. With the brunt of the current slowdown felt by manufacturers, renewed economic activity in the U.S. over the next two years should bring some life back into the economies of Ontario and Quebec. "With the cyclical uptick in the U.S. economy, you should start to see some narrowing in the regional disparities that have come to define Canada's economic landscape over the last few years. An improvement in U.S. demand in late-2007 and 2008 will be a much-needed blessing for Canadian manufacturing." For further information: Don Drummond, Chief Economist and Senior Vice President, TD Bank Financial Group, (416) 982-2556; Beata Caranci, Senior Economist, TD Bank Financial Group, (416) 982-8067

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