Canada’s economy is performing better than in recent months but the rising loonie and increased household debt are red flags that could slow a recovery from the painful recession, a slew of new reports released Monday show.
Economists and the Bank of Canada itself warned that, while the country is trying to claw its way back from the worst slump in decades, there are still significant issues adding stress to the already troubled economy.
For the central bank, a risk is rising household debt – everything from higher mortgages, consumer loans and credit card debt – which could dampen consumer spending down the road and make any recovery weaker than expected.
While manufacturing sales were nearly flat at $41 billion in April and existing home sales fell 2.2 per cent year-over-year in May – which is down significantly from the double-digit drops recorded in January to April – the Canadian economy is expected to shrink by 2.4 per cent this year.
The Royal Bank said in a report that the drop in gross domestic product is due in part to the substantial 5.4 per cent annual GDP contraction in the first quarter. GDP is a basic measure of an economy’s economic performance.
The bank said that is the worst quarterly economic performance since 1991 and likely the worst in the current recession.
“Our forecast is for the second quarter’s contraction to be smaller, although, like the United States, Canada is facing the headwinds from the auto industry’s problems,” the bank said.
The Royal predicts growth will return next year as the U.S. and Canadian economies benefit from low interest rates, firmer credit markets and government stimulus programs.
It also predicts the national jobless rate will hit nine per cent, compared with an average of 8.5 per cent this year.
The Royal report came alongside a pair of Statistics Canada reports on manufacturing and new car sales, both of which saw a levelling off from previous drops.
Manufacturing sales edged down 0.1 per cent to $41 billion in April. StatsCan said sales levelled off between February and April, after falling by 18.7 per cent between October 2008 and January 2009.
It said a 16.4 per cent gain in the transportation equipment industry was offset by weakness in other industries. Excluding the transportation equipment industry, manufacturing sales decreased 2.8 per cent.
TD economist Diana Petramala called the manufacturing report “less bad” saying strength in sales of transport equipment concealed the hardships endured by many other sectors.
However, Petramala said the details of the report were less encouraging, with 16 of 21 industries still posting losses in the month.
“Despite ‘greenshoots’ popping up around the globe, the outlook for Canadian manufacturing remains grim in the near term,” she said in a note, adding that rising loonie remains an issue.
“In addition to battling high inventory levels, Canadian manufacturers are have to deal with a strengthening Canadian dollar which will hurt foreign demand for Canadian made goods, and shift domestic demand towards foreign made goods.”
On Monday, the Canadian dollar was trading down 1.31 cents to 88.14 cents US, after reaching 92 cents earlier this month. TD expects the loonie to hit parity by year end.
“This is troubling given that the manufacturing sector has accounted for about half of the Canadian job losses since October 2008 – jobs that will take time to rebuild,” Petramala said.
StatsCan also said Monday that the number of new motor vehicles sold remained essentially unchanged in April at 121,290, following a strong increase in March.
It said April sales were eight per cent higher than those reported in December 2008, when new motor vehicles sold were at their lowest level in 10 years.
Canada’s housing market is also showing signs of recovery, with existing home sales falling 2.2 per cent year-over-year in May. That compared to a 10.4 per cent drop in April. Sales were up eight per cent in May compared to April.
“Sales activity is now closer to the pre-recession peak than it is to the recent low point reached last January,” Dale Ripplinger, president of The Canadian Real Estate Association said Monday.
He cited strengthening consumer confidence, low interest rates, and improved affordability as a draw for buyers in recent weeks.
“If you blinked, you may have missed the great correction in Canadian housing markets,” BMO Capital Markets economist Doug Porter said.
But Porter said further gains will be harder to come by, as Canada’s employment rate continues to sag. In May, the jobless rate reached 8.4 per cent as a result of the loss of 363,000 jobs since October.
“The housing market is not about to go off to the races, even if it has been pulled back from the brink,” Porter said.
CIBC economist Benjamin Tal said overall, the economy is showing signs of improvement.
“That is the way it should be,” he said, given the stimulus spending from Ottawa.
“That is how it was designed to work.”
However, he said rising interest rates in the long term and the soaring loonie are obstacles.
“If interest rates rise too quickly and if the dollar goes up much too quickly, that could derail this recovery,” Tal said.
Finally Monday, the Bank of Canada said increased household debt is becoming more of a risk to Canada’s financial system.
“The vulnerability of Canadian households to adverse shocks to wealth and income has risen in recent years as aggregate debt levels have grown relative to income,” the central bank said in its bi-annual Financial System Review.
“The risk is that a shock to economic conditions could be transmitted to the broader financial system through a deterioration in the credit quality of loans to households.”
Tal said that report is becoming less a reality, with Canadians starting to save more, which could mitigate the potential damage.