In the press conference release of the latest Monetary Policy Report (MPR), Governor Stephen Poloz sighted four key sources of risk uncertainty to the Canadian economy:
- Economic Capacity.
- Dynamics of inflation.
- Wage dynamics.
- Sensitivity of household indebtedness.
I would like to expand on these issues, based on the press release itself.
For my readers, in the context of this Mortgage Broker blog, I think considering everything through the paradigm of how this will affect Canadian Mortgage interest rates AND our local Real Estate market is most useful.
Economic Capacity:
Under the umbrella of economic capacity, our central bankers are monitoring the moving target of Canadian economic slack/expansion and International competitiveness (the joys of others decisions effecting our results).
The economic “sweet spot” is where the Canadian economy can experience expansion without any upward pressure on inflation. This happens as our economy closes the gap between maximum potential output and current output.
Until recently, our central bankers thought our economy was reaching maximum output. However, interpretations of the employment dynamic in Canada are being revised. Data is showing there is MORE slack in our economy with older people, women and foreigners joining the labour market which expands our maximum potential output.
More slack in our economy allows for more non-inflationary growth AND helps our central bankers explain a slower than expected wage growth.
International competitiveness is also hampering the Canadian economy. NAFTA re-negotiations are stalling some businesses decisions to invest in Canada or not. Publicly traded business have a fiduciary duty to their shareholders. Large capital investment projects, that would be affected by a change to NAFTA, would create negative exposure to the company. Therefore, our central bank is being told these investment decisions are in a “wait and see” area.
Transport bottlenecks and shortages of skilled labour are also influencing our economy. The central bank might suspect this is a structural change to the Canadian economy, which it’s monetary policy would not be able to influence. The Bank of Canada will continue to use inflation as it’s main target of influence.
Dynamics Of Inflation:
The three models of inflation (CPI trim, CPI median, CPI common) are all hovering around 2% which the BoC’s economic models predicted last year. It is noted the same models today are predicting inflation to be slightly higher that 2% BUT STILL within the 1-3% target inflation operating band. It’s also worthy to note inflation has been below 2% for sometime and is expected to be at or below 2% in 2019. Again, I think the Bank of Canada is willing to look past near term upward pressure on inflation and focus on long-term trends AND incoming economic data when making a policy rate decision.
Today (April 20th) Stats Canada released the latest inflation data for March 2018. Inflation is 2.3%.
Wage Dynamics:
A summary of wage-commom, a relatively new output to measure wage growth and other wage dynamics by the Bank of Canada, is up considerably in the last 18 months. Considered in this data are to Provinces minimum wage hikes. In general, wages tend to fall in times of economic contraction and grow during expansion. Wages are expected to be higher at this point in a typical economic recovery. Only until recently has the BoC revised their model of Canada’s labour market slack citing more people are entering the work force (older, women and foreigners). This uptick of labour slack can stall wage growth.
The Bank of Canada also cites that productivity-enhancing labour market churn will add to economic slack.
Sensitivity To Household Indebtedness:
Measuring this target is a work in progress because of the recency of three central bank hikes and a January 1st 2018 Mortgage rule change. A trend is beginning to form indicating household credit is beginning to adjust in reaction to higher rates and more stringent Mortgage qualifying. One thing to be reminded of is consumer spending is +60% of National GDP. We need people spending money, not necessarily paying down debt.
In conclusion, these key issues are being watched closely, particularly economic capacity and inflation. The BoC’s messaging remains steady and clear: future rate hikes are looming based on careful analysis of incoming data. Today’s economy still needs economic stimulus as it cannot maintain momentum on it’s own. As conditions change for the better, and things improve, a continued normalization of interest rates is to happen.
Thank you for reading!
I hope this summary is helpful for you to continue to understand major moving pieces in our economy and how they inevitably trickle into our local Real Estate market.
Talk soon,
Chad Moore
