While Canada’s economy had been finding stable growth, trade tension with the U.S. has caused uncertainty among businesses. Beata Caranci, Chief Economist, TD Bank, talks to Kim Parlee about how auto tariffs could potentially reverberate through Canada’s economy.
I want to shift into Canada, because obviously, we care a great deal about what's happening here. And there's a lot happening here. Growth for 2017-- I think we had 3%. 2018 to '19 down to 1.8% is what you had come out with. What is causing that to happen, that deceleration?
Well, various factors. One is our running speed. For us to hold growth at 3% like last year would be extremely difficult to do, because your labor market keeps getting tighter and tighter, your wage pressures keep building, and therefore, businesses start to adjust their plans, right? And so what we're actually seeing happening in Canada, we think-- and hope-- will continue is, the labor markets have gotten tight enough, and wage pressures are building to a point where we're seeing a shift towards investment. So we've had some really decent investment growth numbers out of Canada that started late last year and are flowing into this year, in spite of all the negative rhetoric on trade and tariffs.
And so I think what's happened in Canada is we've all become really well-versed on the risks related to housing and trade, potential debt levels being extremely high, and interest rate sensitivity on that. However, we tend to forget that there's natural dynamics happening in the economy, and those continue to push us forward. And one of those coming through is definitely on the investment side. But the consumer is an offset. So as consumers start to move towards slower debt accumulation in a higher interest rate environment, that is where you're getting the counter-position to the growth. So while investment is rising, it doesn't make up as large a share as the consumer, which is about 60% of GDP.
Right. So consumers spend less. And so that's what causes that deceleration.
Interesting. You have in your report, as well-- I think what may be underappreciated is Canada's resilience, despite it all. We'd like not to have the "despite it all," quite frankly, but it is what it is. So there is resilience there.
I want to go back to the auto tariffs, because you talked about what it means for the world, in terms of shaving growth off. In Canada, I think I saw some estimates coming out anywhere from I think 0.5% of growth a year-- could be higher, depending what you said on the details of what is in there. The word permanent scarring, though, was used. And I think that's the more concerning thing. Tell me a bit about that.
Yeah. So the 0.5% was specific for Canada, but that's really an Ontario impact. Ontario is 40% of the Canadian economy. And so we do think Ontario would likely have a recession unfold, simply because exports make such a large share of the economy and is specific to the auto sector. So I think from that perspective, there are clear risks.
Again, that's not until a 2019 risk. But the investment scarring is basically-- if you don't have transparency or assurance on your policy, it's already a risk that it could be happening. We know we've had decent investment numbers out of Canada, but we don't know what the counterfactual is. How much higher could they have been in the absence of the trade risk? In the event that auto tariffs are put in place, and you've now targeted an area where there has been a huge amount of investment occurring over the decades and building and supply chain links, this uncertainty would persist over a long period of time. And we doubt that companies would be incented to invest in Canada in the absence of a solidified trade policy or with the risk of tariffs being elevated to the extent that was being thrown out there potentially as high as 25%.
And so by that, we mean that when you have businesses who no longer have the confidence in that environment or backdrop, you don't just get a one or two-quarter cyclical impact or one or two-year. It actually persists over years. And your level of investment never gets back to where you would have been in the absence of that risk. That ultimately could lower your potential GDP growth.
So where we say Canada's running speed is somewhere between 1 and 1/2 to 2, those estimates start to come down. That subsequently means that the Bank of Canada would be more cautious on raising interest rates. So it has a big flow-through effect, should that occur. So that is definitely a risk, and we're mindful of it. We're not seeing it yet in the data. But again, we don't know what the counterfactual is.
I have two last quick questions for you, because the one thing that's interesting in all of this-- again, from your standpoint, is when do you start paying attention to the data? Will you-- I'm sure-- start paying attention when the central banks start paying attention to the data? So when do the trade risks-- and not just BOC, but also around the world-- when do you think the trade risks are something that the central banks start to really incorporate and say, OK, we're actually going to slow down what we're planning to do, in terms of raising rates in the States or elsewhere?
Well, Bank of Canada does mention trade risks as a key factor, in terms of what they're watching for. But ultimately, the risks are there. They're always there. Doesn't matter what your economic environment is. They just take different forms. Ultimately, you have to respond to what's happening in the data. And I think from that perspective, if they're continuing to see business sentiment hold in Canada, if they're continuing to see investment growth hold-- the majority of companies are inward-focused in Canada. They're not all export-oriented. So those companies have very high-capacity utilization rates that is forcing them into greater investment spends. If that data holds, then they won't react. Of course, once you have something actualised-- a big tariff come through-- you can model it out and look at confidence measures. I think you have to internalize it.
My last question for you-- the loonie. I heard someone calling it the most unloved currency right now. I know we're trading it around $0.75 right now. You've got it, I think, up to $0.77, $0.78, and higher later on. But where's the love?
Yeah. And that presumes that NAFTA negotiations do get resolved. And we don't have additional tariff activity happening. So right now, there's certainly a discount being applied on Canada related to the trade risks, related to the fact that we are in the line of sights that the US is targeting from this perspective. We were not spared on aluminum and steel, in spite of being close allies--
That's a kind way of saying it, yes.
Yes-- and having very strong supply chain links into them. So I think what's happening now is-- and then now you've recently seen the US even target China and Europe, as well. So I think the mentality is, well, no man's to be spared. And Canada has the heaviest-- outside of Mexico-- trade relationship with the US, and therefore, it makes sense to maintain a discount.
I would say you actually need to maintain the discount, because if your prospects for shipping into the US are getting reduced, you have to maintain a competitive edge through the currency channel, although the data has shown that that is less of an influence in the past decade than it has been in the past. But it's the natural flow of how you gain some competitive edge when resort to building your economy.
Thank you. Beata Caranci, Chief Economist of TD Bank Group, joined me earlier. And again, lots of great things to say about the economy, and specifically the Canadian economy.