2019 ended with positive movement on both the U.S.-China trade and Brexit front. But will that be enough to kick-start the investment cycle and boost economic activities? Kim Parlee talks to Beata Caranci, Chief Economist, TD Bank Group about the 2020 outlook for the Canadian economy.
[00:00:07.33] - We're kicking off the year with a deep dive into the Canadian economy. Will 2020 be a year of boom, bust, or beige? Joining me is Beata Caranci, Chief Economist at TD Bank Group. And I spoke with her a little bit earlier.
[00:00:20.02] Happy new year.
[00:00:21.06] - And to you.
[00:00:22.27] - I want to start off the new year with something you said in the old year. So bear with me. But you talked about in your last note on the economy that Canada is back to its old ways. So what do you mean by that?
[00:00:35.03] - Well, basically, we have returned to an economy that's being driven by a housing market. It didn't take long. We had a period where we went through higher mortgage stress testing. They still remain in existence.
[00:00:46.00] But once you get through the adjustment period, which we are now through, we are starting to see a lift on sales. And it's being helped along by the simple fact that yields are substantially lower than they would have been in 2018. 2019 had a substantial drop in yields, 100 basis points and about 50 basis points in mortgage rates. So that offset some of the stress testing initiative and got people back into the market. So here we are again with an economy driven by home sales of stronger home prices, very good population growth that is feeding into the housing market, and still having some pessimism occurring on business investment and the export side, which is we're not quite getting that rotation of growth we need so that we can reduce our reliance on the consumer side.
[00:01:30.14] KIM PARLEE: Let's take this up to, like, the 10,000-foot level. We'll come back down to Canada and in a second. But when you take a look at 2020 and say, over the next 52 weeks, here are some of the negatives. Here are some of the positives.
[00:01:40.54] I'll play the part of the dismal scientists right now. We'll start with the negatives. What do you see that we have to watch out for?
[00:01:45.56] - I think it's going to be more of the same of the 2019 story playing out. So one is one of the biggest stories that we got caught a little bit off guard by was downgrades in the global economy more than we had been anticipating. And this was largely centered in weakness in Europe, in particular. In fact, Europe today remains teetering on a recession. So it can go either way.
[00:02:08.91] They have been particularly hard hit in the manufacturing and trade sectors. Their consumers holding in. But ultimately, that story is still playing out through 2020 in terms of which way that one is going to go.
[00:02:21.19] And so we have global growth, a slight recovery in 2020 but not much. So we're looking at a global economy that, last year, was the slowest pace in a decade. And this year might edge it out by 0.2%. So it's nothing to write home about.
[00:02:38.08] And what we need for that story to come through is stability, particularly within emerging markets, to help push that along-- so some negative news there. The trade story has not gone away. We have positive news, which will be released we think next week, with the signing of a phase I deal by China and the US.
[00:02:58.72] But by all accounts, from what we've learned so far, it does not look like it's going to materially shift the dial on trade risks. The administration is very much pro-tariffs as a means of enforcement. We're hearing that they already want to pivot to Europe as a means to get them onside with some trade agreements.
[00:03:18.39] A digital tax that France wants to put on corporations is a hot-button issue for the US. So this is going to go on, and on, and on. So I don't think we've hit a period where trade uncertainty is going to be leaving. And it may never do so.
[00:03:33.49] - What about-- you had, I'd say, the soft global growth. You've got trade issues. And then we've got to layer in, I'd say, a resurgence of Middle Eastern activity and problems. And obviously, that can have an effect on oil.
[00:03:47.62] Although, one day does not a year make. We saw it jump up and down in terms of oil prices. But how do you see that playing out?
[00:03:53.98] - Actually, I thought the move in oil was actually quite mild considering the rhetoric and risks that were being discussed in the media side. And we only had a few dollar move in oil. And it's back down today, because some of those risks have now subsided.
[00:04:08.98] Certainly, this is an ongoing risk. So right now, this particular day is a quiet day. Yesterday was not. We don't know what next week will bring or the months ahead what they'll bring.
[00:04:20.65] The biggest concern is if there is any blockade in the Strait of Hormuz, which transports a huge amount of oil in and out. And that would certainly put upward pressure on oil prices if that were to occur. If that does occur, it would be unfortunate timing for regions like Europe, which is already on the bubble in terms of their economic expansion. So that's an economy that would have trouble absorbing higher energy prices.
[00:04:44.21] But for a country like Canada, if we do end up with higher energy prices, you're actually boosting your nominal income to the economy. So it's not going to be as clear cut that this is a net negative. Whereas, it would be for countries that are already struggling.
[00:04:56.86] - Yeah. Although, it could incite some more activity in Canada in terms of pipelines and that sort of thing at the same time when you have that disparity in the prices. Let me ask you. So Europe is seeing some red flags there in terms of what you see for 2020.
[00:05:08.40] The States, there's an election coming in November. So without getting into the politics of it, what could it mean, do you think, for the economy? We traditionally have seen moves at the economy based on elections. But this feels like not a traditional election.
[00:05:24.44] - Nothing about this administration is traditional. Typically, you have-- past cycles, if you look at how the markets have played out when you're going into election cycles, there is a lot more uncertainty. Because you just don't know what that outcome is going to be. So it's not unusual this year that you may see some money move to the sidelines.
[00:05:42.33] Corporations may hold and tend to hold higher cash holdings and perhaps delay investment as a potential of not knowing what that next administration is going to look like and what their policies will look like. We don't know yet who the Democratic leader is going to be.
[00:05:59.19] - There's one name. It's a bit of a lightning rod, though, for the markets.
[00:06:02.05] - Yes. But if you go through and look at some of the policies, those leaders that have-- there are some that have stronger left-leaning policies, talking about a role up in corporate tax rates that have been cut-- wealth tax, as well. So certainly, if you move through the year and these candidates look more probable to become the Democratic presidential candidate, one would think that businesses might be a bit more cautious on their investment side until they could get a better picture of that. But typically, once you get the administration in place, you see a resumption in activity thereafter. So we might have some mixed signals coming through the data, because we're going to have to figure out how much of this is cautiousness from the global economy, from the political cycle versus something more insidious that could be happening with economic dynamics.
[00:06:51.93] - After the break, we're going to continue our conversation with Beata, and get her perspective on interest rates, and find out why the heck the loonie is behaving the way it is right now. You're watching Money Talk. We'll be right back.
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[00:07:04.93] We are back and continuing our look at what to expect from the global economy in 2020. TD Chief Economist, Beata Caranci, says one bright light has been US consumers, which are savvy, seeing both an increase in household incomes and savings.
[00:07:21.51] - There's so much attention on the external factors that are going on. It's very familiar ground for Canadians. We're very accustomed to a small, open economy to pay attention to everything happening outside of our borders. But the US economy is largely driven by internal dynamics. So the consumer demand is much larger share of their economy than it is in most others, including Canada.
[00:07:42.88] So what we're seeing is very strong job market dynamics not just in the number of jobs being created, but in the quality of the jobs. So more jobs being distributed across skill level, high, medium, and low, all showing broad gains. So it's becoming more inclusive growth as we go through this economic cycle.
[00:08:03.54] And we're also seeing larger wealth gains happening even for those in the bottom 20 percentile, the bottom 40th percentile. And this year, 2020, could be a year, depending on how the stock markets do, that all percentiles have fully recovered wealth losses from 2007. Because can you believe, the bottom 20th is still trying to recover from that cycle?
[00:08:25.33] So when you have all these dynamics happening, the quality of jobs being better, the wealth dynamics being better, and the level of jobs being higher, it tells us that probably the area where we could get an upside surprise will be on the consumer spending side. So we do have at TD a stronger forecast than the street for consumer spending because of this trifecta of dynamics.
[00:08:46.27] - I want to get to Canada. But of course, the one, I'd say, almost foundational piece to everything you're saying is liquidity and interest rates. And it sounds as though it's going to remain for 2020.
[00:08:55.65] - Interest rates being flat, pretty much. I think you'd need pretty big upside surprises in either direction. So we already know the Federal Reserve has told us that they need a material move or adjustment to occur in their forecasts for them to cut rates. And the tensions in Iran are not going to do it. It would have to be something very homegrown, domestic oriented, or a big shock to market sentiment.
[00:09:19.36] - Yeah.
[00:09:19.83] - We're not seeing that. We don't expect it. And then to go the other way, to raise interest rates, you would have to likely see significant or compelling evidence that inflationary pressures are building.
[00:09:31.23] And in the US, it's less compelling. Because although they are having a strong job dynamic happening, they still have room to grow. Because their participation rates are not as high as you would expect. They are engaging more people, but they're lower than what you would expect.
[00:09:45.55] So their wage growth is less than Canada at 3%. So they're not going to get that wage push inflation, where wages get so high that it starts to feed to inflation, consumer prices, probably for another year. So we don't think they're really at that pivot point where the Fed would go one way or the other. They're going to be patient.
[00:10:04.47] - So let's pivot, then, to Canada. And you've got interest rates in Canada-- Canada a little out of step, I'd say, in terms of the level of interest rates. So what do you expect to see here?
[00:10:13.54] - Yeah, so when you say a little out of step, one of the most cited statistics is that Canada has the highest policy rate amongst the industrialized advanced--
[00:10:21.12] - I was being polite. Yes.
[00:10:22.79] I was being Canadian.
[00:10:24.88] - And we also have an inverted yield curve that's extending six months, which is also anomalous to what we see in other countries. So basically, maybe not as much agreement in the market that the policy setting is at the right level relative to where yields are. Yields are moving off of international dynamics, though.
[00:10:42.67] So I think from the Bank of Canada, the market consensus is that the Bank of Canada is going to remain on the sidelines. That's largely because Governor Poloz has been reluctant to signal otherwise. And so they're taking his cue.
[00:10:56.28] We actually put in a rate cut for the Bank of Canada because we're a little bit worried that the economic dynamics are quite weak. We're only looking at about 1.5% percent economic growth. We're concerned that the high level of the debt service ratio-- if you have yields go up and really ship to strengthen the US, this is going to take Canada's debt service ratio even higher. And we already have a consumer that's underperforming relative to what you would expect given the strength in the job market.
[00:11:25.99] So they do have to manage both sides of the risk. I think people think that because you have a heavily-leveraged household that you can't cut rates. But you have to remember, if you have a leveraged household and you end up with weakness coming through the job market, income, or anything, you end up with an accelerator effect of weakness floating through the economy, because so many people are leveraged.
[00:11:49.41] - You were so positive until this point, Beata.
[00:11:50.44] BEATA CARANCI: I know.
[00:11:51.99] So they have to manage that risk-- that they can't let the economy get so weak that you can't stop that dynamic from spreading, because you have this leveraged household.
[00:12:01.16] - That, I guess, reminds me of the last conversation or one of the last conversations we had. You talked about the Beetlejuice recession and the idea of when we say enough, it'll actually happen. Any danger of that related to what you just said?
[00:12:13.06] - Well, recently, there was a poll just put out that was showing that Canadians actually seem to be more pessimistic than their American counterparts. Just over half are saying they feel like there is more probability of having a recession in Canada than the US. That's a little bit anomalous. We generally don't see that.
[00:12:29.00] Because the US happens to be our buffer in terms of the Canadian dollar would weaken. And we would end up exporting more. So it offers a little bit of a buffer from preventing us to go in a recession.
[00:12:38.91] The difference in this particular cycle is that, because we have such a levered household, you may not get that same catalysts of growth that you would from fiscal stimulus as in the past. If the government tries to do income transfers to boost up the economy, you save it. You pay down debt. And so you're not actually putting it back into the economy.
[00:13:00.51] - You brought a chart in I want to take a look at here. This is a chart of the loonie and what it has done up until the end of last year-- title here, "Loonie Not Responding to Fundamentals." What is happening here? And what do you see happening for 2020?
[00:13:13.59] BEATA CARANCI: Yeah, so what you would expect is, when the Federal Reserve cut their policy rate by 75 basis points, what it did is a compressed US short end of the curve to the Canadian curve. Because we have basically almost the same policy rate. That should normally drive your Canadian dollar higher from an interest-bearing asset and having the same yield as what you would expect in the US.
[00:13:37.46] That did not happen. And higher oil prices don't seem to have a very significant impact on the Canadian dollar for the reasons that we don't have the same ability to ship out and to develop our resources as other countries would. So from that perspective, we just have a loonie trading in a very tight trading range. It goes between $0.74 and $0.77 irrespective of what's happening in terms of your typical fundamentals, interest rates, commodity prices.
[00:14:05.48] And then your other factor that moves around the loonie is risk. And that's the one thing it does seem to respond to. When you have heightened risk in terms of global, you'll see a weaker Canadian dollar and vise versa. So really, the US dollar is driving the bus. Whatever's happening on the US dollar, if that's strengthening or weakening, that's the play off to the Canadian as opposed to domestic fundamentals.
[00:14:26.28] - We're going to have to leave it there. But Beata, thanks so much.
[00:14:28.26] - My pleasure.
[00:14:30.50] - That, of course, was the very insightful Beata Caranci. She is chief economist at TD. Thank you so much for joining us tonight. Any comments and questions, we do love to hear from you.
[00:14:39.42] You can send them to MoneyTalk@TD.com. And if you'd like to see anything that you've seen again, please go to www.moneytalkgo.com. Thanks so much for watching. And we'll see again next week.
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