july/august 2016 highlights...another risk to the global economy is the continuation of...

July/August 2016

Highlights With Britain voting to exit the European Union, downside risks have increased for a global economy that was

already sputtering. Related uncertainties alone will restrain economic activity particularly in Europe, while the expected USD surge due to the risk-off mood will not only weigh on the US economy and commodity prices but should also raise odds of default outside America for holders of record amounts of USD-denominated debt. Those additional headwinds won’t help China as it continues to struggle in rebalancing its economy. We have cut our forecasts for world GDP growth for both this year and next to 3.0% and 3.2% respectively.

While US growth seems to have picked up a bit after a soft Q1, things are far from rosy in the world’s largest

economy. The goods sector continues to struggle under the weight of the mining slump and weak factory activity, while the services sector (a source of resilience earlier) is now losing steam. Trade remains under pressure from a strong dollar, while domestic demand is constrained by weak investment. The string of soft data, including employment creation, explains the Fed’s decision to downgrade its growth forecasts at its June meeting. With Brexit wreaking havoc and the November elections on the horizon, Fed rate hikes now seem to be off the table for this year. In light of uncertainties brought by Brexit and the expected USD surge, we have lowered our 2017 growth forecast for the US by two ticks to 1.8%.

The poor handoff from the first quarter and the devastation caused by Alberta’s wildfires point to a contraction

of Canada’s economy in the second quarter. Economic growth should bounce back in Q3 thanks to clean-up and rebuilding efforts and as oil production recovers. Overall, the wildfires may trim about a tenth of a percentage point from the country’s annual growth rate if oil production was at half capacity for a month. Uncertainties created by Brexit could potentially cause a sharper-than-expected slowdown in overall global growth and hence hurt commodity prices and Canada’s export volumes. We have accordingly lowered by our Canadian GDP growth forecasts to 1.2% this year and to 1.7% for 2017.

Krishen Rangasamy [email protected]

Change fromPrevious Forecast

2015 2016 2017 2016 2017

United States

GDP 2.4% 1.9% 1.8% unch -0.2 pp

CPI inflation 0.1% 1.2% 2.0% -0.2 pp -0.3 pp

Fed Fund Target Rate* 0.50% 0.50% 1.00% -25 bp -25 bp

Ten-year bond yield* 2.27% 1.65% 1.92% -37 bp -29 bp

Canada

GDP 1.1% 1.2% 1.7% -0.1 pp -0.2 pp

CPI inflation 1.1% 1.5% 2.0% -0.2 pp -0.1 pp

Overnight rate* 0.50% 0.50% 0.50% unch -25 bp

Ten-year bond yield* 1.40% 1.32% 1.67% -31 bp -32 bp

* end of period

MONTHLY ECONOMIC MONITOR

2

World: The fallout from Brexit With Britain voting to exit the European Union, downside risks have increased for a global economy that was already sputtering. Related uncertainties alone will restrain economic activity particularly in Europe, while the expected USD surge due to the risk-off mood will not only weigh on the US economy and commodity prices but should also raise odds of default outside America for holders of record amounts of USD-denominated debt. Those additional headwinds won’t help China as it continues to struggle in rebalancing its economy. We have cut our forecasts for world GDP growth for both this year and next to 3.0% and 3.2% respectively. It’s now official. Britons have voted with a 52% majority to leave the European Union. While it may take a couple of years for an actual exit from the trade bloc to take place, the economic damage should be immediate for the UK as related uncertainties restrict economic activity, particularly investment spending. Calls will grow for another vote on independence in Scotland which, unlike the rest of the UK, favours staying in the EU. The sinking pound may temporarily provide some offset to the UK via exports, although it’s unclear if that will be enough to compensate for the expected hit to domestic demand. Worse, Brexit will also have repercussion on the other side of the English Channel. Besides the economic hit in Europe from enhanced uncertainties, the referendum results could also fuel sentiment of nationalism. Disillusionment about the EU has been on the rise on the old continent since the economic crisis hit in 2008, and found a second wind recently in the aftermath of the migrant crisis and acts of terrorism. The far-right is gaining in popularity across Europe as a result. While any EU disintegration will take time to unfold, there’s a more immediate threat in the aftermath of Brexit, namely a surging US dollar. True, uncertainties about the impact of Brexit on the world economy significantly reduce odds the Fed will hike interest rates this year, let alone in the summer, but the USD could nonetheless find support via its safe-haven properties. Indeed, the world’s reserve currency tends to gain in periods of heightened uncertainties and stress in financial markets. The trade-weighted USD has already appreciated 18% in the last two years and a further leg up would raise odds of default by some dollar borrowers. According to the Bank of International Settlements’ latest Quarterly Review, US dollar-denominated debt outstanding at the end of 2015 outside of America amounted to a record US$9.7 trillion, or almost 18% of world GDP excluding the US. While USD-denominated debt has risen in emerging markets, that pales in comparison to the debt in advanced economies (ex-US) which amounted to US$ 6.5 trillion at the end of last year. That’s roughly 25% of GDP of advanced economies excluding the US, i.e. more than three times the exposure than say 20 years ago.

6

8

10

12

14

16

18

20

22

24

26

1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

World: Dollar-denominated debt at all-time highUSD-denominated debt outside of the US

% of GDP

NBF Economics and Strategy (data via Bank of International Settlements, IMF)

OECD ex-US

Total ex-US

Emerging


3

A disorderly deleveraging could be messy, having the potential to yield yet another global financial crisis. Unlike in 2008/09, interest rates are already low meaning that central bankers now only have a depleted arsenal at their disposal to fight any crisis. Another threat to the global economy is trade protectionism, something that cannot be ignored considering the explosive rhetoric that has come from some politicians ahead of this year’s US elections. A trade war would be devastating to the world economy considering how integrated the latter has become. Global supply chains and hence trade linkages are more important than ever as evidenced by world exports which are rising at a faster pace in gross terms than in domestic value-added terms, i.e. growing share of foreign value-added. And thanks to the removal of barriers to investment, holdings of emerging market portfolio instruments by investors from advanced economies have risen to an all-time high. So, while a trade war would hit emerging economies disproportionately, advanced economies such as the US would not be left unscathed.

Another risk to the global economy is the continuation of short-sighted fiscal policy. Governments have ignored the problem of declining potential growth and eschewed fiscal stimulus and reforms, something that has been costly to growth not only contemporaneously but also going forward.

World Economic Outlook

Forecast

2015 2016 2017Advanced countries 1.9 1.6 1.5United States 2.4 1.9 1.8Euroland 1.6 1.5 1.3Japan 0.5 0.5 0.1UK 2.2 1.6 1.1Canada 1.1 1.2 1.7Australia 2.5 2.6 2.7New Zealand 3.4 2.7 2.5Hong Kong 2.4 1.7 1.7Korea 2.6 2.6 2.6Taiwan 0.7 1.3 1.9Singapore 2.0 1.7 2.0

Emerging Asia 6.5 6.3 5.9China 6.9 6.5 6.1India 7.3 7.5 7.2Indonesia 4.8 5.0 5.1Malaysia 5.0 4.2 4.2Philippines 5.8 5.9 5.7Thailand 2.8 2.9 3.1

Latin America -0.1 -0.5 1.8Mexico 2.5 2.4 2.6Brazil -3.8 -3.7 0.5Argentina 1.2 -1.1 3.1Venezuela -5.7 -8.2 -0.4Colombia 3.1 1.8 2.3

Eastern Europe and CIS 0.0 1.0 1.6Russia -3.7 -1.2 0.8Czech Rep. 4.2 2.4 2.5Poland 3.6 3.5 3.2Turkey 3.8 3.4 3.3

Middle East and N. Africa 2.3 2.9 3.1

Sub-Saharan Africa 3.4 3.1 3.8

Advanced economies 1.9 1.6 1.5Emerging economies 4.0 4.0 4.3World 3.1 3.0 3.2

Source: NBF Economics and Strategy

1.02

1.04

1.06

1.08

1.10

1.12

1.14

1.16

1.18

1.20

1.22

1.24

1996 1998 2000 2002 2004 2006 2008 2010

World: Growing linkages in trade Ratio of Gross exports to Domestic Value-Added Exports (i.e. measure of importance of global supply chains)

NBF Economics and Strategy (data via IMF)

ratio

Record-high ratio suggests global supply

chains are more important than ever

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

2006–07 2013–14

Capital growth Potential employment growth

TFP growth POTENTIAL GDP growth

World: Declining economic potentialWorld potential GDP growth

%

NBF Economics and Strategy (data via IMF, NBF calculations)

Decline in TFP due to emerging economies

Decline in potential employment due to advanced economies

Increase in capital due to emerging economies


4

Advanced economies have seen potential GDP growth drop from around 1.9% just before the global financial crisis to roughly 1.5%, the decline largely attributed to employment (i.e. worsening demographics) and capital. Emerging economies too have seen a decline in potential but for different reasons, namely declining growth in total factor productivity. Overall, the world economy’s potential GDP growth seems to have dropped by roughly half a percentage point to only 3% or so. Such a snail’s pace of potential growth raises the spectre of secular stagnation for the global economy, something that may well materialize if the fiscal response remains inadequate. China is another wildcard for the global economy. Rebalancing the economy towards consumption and away from investment and trade seems to be working as evidenced by the growing share of contributions to GDP taken up by consumption, and the shrinking current account surplus. But rebalancing isn’t without costs. China’s growth is being sacrificed as the less productive services sector gains in stature compared to say the highly productive goods/exports sector. This year GDP growth in the world’s second largest economy is expected to come in at around 6.5%, the lowest in 26 years. This deceleration is having repercussions worldwide but felt most in countries with which China has deep supply chain linkages. Trade exposure, as measured by the domestic value-added content of a country’s exports for China’s final demand, is indeed largest in Asia. The latter is expected to lose more from the export drop related to China’s investment slowdown than it gains from higher exports tied to increased Chinese consumption. The deceleration of growth has hurt profitability and made it more difficult for debt-burdened Chinese firms to stay afloat. However, that hasn’t stopped them from issuing more debt. Just last year corporate debt issuance soared to a record 2.6 trillion yuan. So much so that corporate debt now accounts for a massive 145% of China’s GDP according to the IMF ─ state owned enterprises account for 55% of that debt despite accounting for just 22% of the economy. For the median Chinese firm, gross debt relative to EBITDA (earnings before interest, taxes, depreciation and amortization) has more than doubled in the last five years. So, defaults are likely to increase. The only question is whether or not Beijing will be successful in managing the fallout to prevent a financial crisis which eventually spills over to the real economy. All told, there are downside risks even to our pared down and below-consensus forecasts for global growth ─ the downgrades to 3.0% this year and 3.2% in 2017 reflect the damage caused by Brexit mostly via enhanced uncertainties. We’re getting closer to secular stagnation meaning that central banks worldwide have little choice other than keep monetary policy highly stimulative for the next couple of years at the very least.

-10

0

10

20

30

40

50

60

70

2010 2011 2012 2013 2014 2015 2016

China: Rebalancing seems to be workingShare of GDP growth, 4-quarter average

%

NBF Economics and Strategy (data via Datastream)

Investment

Consumption

Trade

Q1

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

World Asia Non-Asia

Share of domestic value-added for consumption Share of domestic value-added for investment


World: China rebalancing has repercussions across the globeShare of domestic value added exported for China’s final demand

% of GDP

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2.2

2.4

2.6

2.8

3.0

1.6

1.8

2.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

3.6

3.8

4.0

2010 2011 2012 2013 2014 2015

China: Corporate debt issuance soared last yearCorporate debt issuance versus Gross debt relative to earnings (for median firm)

Trillion yuan


Gross debt to EBITDA (R)

Corporate debtissuance (L)


5

U.S.: Fed downgrades again While US growth seems to have picked up a bit after a soft Q1, things are far from rosy in the world’s largest economy. The goods sector continues to struggle under the weight of the mining slump and weak factory activity, while the services sector (a source of resilience earlier) is now losing steam. Trade remains under pressure from a strong dollar, while domestic demand is constrained by weak investment. The string of soft data, including employment creation, explains the Fed’s decision to downgrade its growth forecasts at its June meeting. With Brexit wreaking havoc and the November elections on the horizon, Fed rate hikes now seem to be off the table for this year. In light of uncertainties brought by Brexit and the expected USD surge, we have lowered our 2017 growth forecast for the US by two ticks to 1.8%. While US growth seems to have picked up some speed in the second quarter, that’s scant consolation considering it comes after a soft Q1. To be sure, things are far from rosy in the world’s largest economy. The goods sector continues to struggle under the weight of the mining slump and weak factory activity, the latter stemming from soft demand at home (business investment) and abroad (exports continue to be restrained by a strong US dollar). As a result, industrial production is set to contract in Q2 for the fifth time in the last six quarters. We’ve rarely seen such a stretch of red ink outside of a recession. The only reason the US managed to grow this year amidst the goods sector slump is the resilience in services. The bad news, however, is that even the latter sector now seems to be losing steam based on the ISM’s non-manufacturing index which is on a clear downtrend. Slow growth coupled with declining productivity and profits explain the observed deceleration in employment creation. Even after adjusting for the Verizon strike, net employment creation over April-May was under 200K, the lowest two-month tally in four years. The underlying weakness cannot be denied with job losses in cyclical sectors such as manufacturing and construction in May. Hourly earnings remained tame with a year-on-year increase of just 2.5%, well below pre-recession levels. Moreover, the diffusion of employment in the private sector was the worst since 2010. While the jobless rate fell to 4.7%, that was largely due to the slumping participation rate, hardly a bullish statement about the labour market. The string of weak data explains why the Fed decided to keep monetary policy unchanged at its June meeting. Still, the Fed continues to peddle the idea that interest rates could rise any time now depending on data. But the Fed’s own forecasts suggest low odds of that happening soon.

-16

-14

-12

-10

-8

-6

-4

-2

0

2

4

6

8

10

12

14

1980 1985 1990 1995 2000 2005 2010 2015

U.S.: Goods-producing industries continue to struggle …Industrial production


y/y % chg.

May 2016

Shaded areas represent US recessions

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

3.6

55.2

55.6

56.0

56.4

56.8

57.2

57.6

58.0

58.4

58.8

59.2

59.6

60.0

60.4

60.8

61.2

61.6

62.0

2011 2012 2013 2014 2015 2016

… while services sector starting to sputterPrivate services output versus ISM non-manufacturing index

NBF Economics and Strategy (data via BEA, Datastream)

y/y % chg.

Q2

ISM non-manufacturingindex (R)

Private services sector output (L)

44

46

48

50

52

54

56

58

60

62

64

66

68

70

72

2010 2011 2012 2013 2014 2015 2016-300

-200

-100

0

100

200

300

400

500

600

700

800

2010 2011 2012 2013 2014 2015 2016

U.S.: Labour market softens

2-month change in non-farm payrolls employment

thousands


Worst 2-month tally since2012, even after adjusting

for Verizon strike

May May

Private sector employment diffusion index

Worst since 2010


6

Indeed, the FOMC’s latest summary of economic projections showed a lower path for GDP, meaning the expected output gap by the end of 2018 has now swollen to about half a percentage point at best and to 2.3% under the worst case scenario. True, projections for PCE inflation were raised a bit in line with higher energy prices. But the fact that forecasts for the jobless rate were left unchanged near current levels suggests either productivity growth will improve or the labour market participation rate will bounce back. That’s another way of saying the Fed doesn’t see much wage inflation ahead. With Brexit wreaking havoc and the November elections on the horizon, Fed rate hikes now seem to be off the table for this year. And it’s unlikely there will be too many hikes in subsequent years. The Fed again lowered its estimates for what it considers the long-run levels for the fed funds rate ─ the 3.75% which the FOMC was calling its low estimate 4 ½ years ago is now the high estimate. So, American households will continue to enjoy the benefits of low interest rates for many more years. A better economy coupled with low cost of borrowing has allowed for consumer bankruptcies and home foreclosures to fall to all-time lows. That has incidentally helped improve credit scores for consumers and made it possible for them to borrow even more. Since mid-2013, household debt has increased by US$1.1 trillion according to New York Fed data. Credit growth over that period has been very strong for student loans ─ the latter reflecting soaring tuition fees (up 10% over the period versus 2.5% for the headline CPI since 2013Q2) ─ but also for auto loans. From 2013Q2 to 2016Q1, auto loans represented 23% of the flow of debt despite accounting for just 8% of the total stock of debt. That explains why auto sales are on track to top 17 million units for the second year in a row. While consumer leveraging has worked wonders for the auto industry, its impact on the housing market has been more subdued. From 2013Q2 to 2016Q1, mortgages accounted for only 48% of the flow of debt despite making up roughly 70% of the stock of household debt. Such underperformance can be traced back to tighter lending standards by banks, with more than half of new mortgage originations over that 11-quarter period going to borrowers with credit scores 760 and above. Little wonder why resale home prices and housing starts both remain well below 2006 peaks. So, while there are good things happening in the US economy, namely credit growth and decent consumption spending, there is room for improvement particularly with regards to the housing market, investment and trade. The Fed will acknowledge this and hence keep monetary policy highly accommodative for years to come. In light of uncertainties brought by Brexit and the expected USD surge, we have lowered our 2017 growth forecast for the US by two ticks to 1.8%.

-2.50

-2.00

-1.50

-1.00

-0.50

0.00

2.6

2.8

3.0

3.2

3.4

3.6

3.8

4.0

4.2

4.4

4.6

Fed estimates of nominal fed funds rate in the longer-run

%

Highest estimate

Lowest estimate

Jan 2012

Jun 2016

Dec2013

Dec2012

Dec2014

Dec2015

NBF Economics and Strategy (data via Federal Reserve, Congressional Budget Office)

U.S.: Fed downgrades again

Output gap calculated using CBO’s estimates of potential and Fed’s latest GDP projections

Worst case scenario, June 2016

Best case scenario, June 2016

2016 2017 20182015

… and also over the longer-term, with its highest estimate of the nominal fed funds rate now the same as its lowest

estimate 4 ½ years ago

Fed downgraded its GDP forecasts,

leading participants to lower their

expectations for the fed funds rate over the near-term …

%

March2016 (Best)

March2016 (Worst)

0

100

200

300

400

500

600

700

800

900

1,000

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

U.S.: New foreclosures and bankruptcies lowest on records Number of consumers with new Foreclosures and Bankruptcies

NBF Economics and Strategy (data via New York Fed)

Bankruptcies

Foreclosures

thousands

2016Q1

0

10

20

30

40

50

60

70

80

Mortgage AutoLoan

CreditCard

StudentLoan

Other

share of stock of debt

share of flow of debt

7.0

7.5

8.0

8.5

9.0

9.5

10.0

10.5

11.0

11.5

12.0

12.5

13.0

2004 2006 2008 2010 2012 2014 2016

U.S.: Household debt continues to climb

Household debt over 2013Q3-2016Q1Total household debt

US$ trillion

NBF Economics and Strategy (data via New York Fed)

Household debt has risen more than US$1 trillion

since mid-2013 …

Q1

$1.1 tn

%

…driven by strong growth in auto and

student loans


7

Canada: Better second half? The poor handoff from the first quarter and the devastation caused by Alberta’s wildfires point to a contraction of Canada’s economy in the second quarter. Economic growth should bounce back in Q3 thanks to clean-up and rebuilding efforts and as oil production recovers. Overall, the wildfires may trim about a tenth of a percentage point from the country’s annual growth rate if oil production was at half capacity for a month. Uncertainties created by Brexit could potentially cause a sharper-than-expected slowdown in overall global growth and hence hurt commodity prices and Canada’s export volumes. We have accordingly lowered our Canadian GDP growth forecasts to 1.2% this year and to 1.7% for 2017.

Canada continues to grapple with the fallout from the oil shock. Last year’s growth was downgraded to just 1.1% and the first quarter of 2016 wasn’t particularly uplifting. While Q1’s 2.4% annualized growth rate for real GDP is nothing to sneeze at, there are reasons to believe such a pace is not sustainable. The acceleration in consumption was partly due to a sharp drop in the savings rate suggesting challenges ahead for consumers. Residential construction was also strong in synch with a hot housing market, although a deceleration in building permit applications point to an upcoming moderation.

The continuing slump in investment meant that overall domestic demand remained weak in Q1. Since hitting a peak at the end of 2014, real non-residential business investment has fallen roughly 18%, the collapse getting closer in magnitude to that seen during the Great recession of 2008/09. While investment in mining and energy should remain depressed due to weak profits and excess capacity in those sectors, there is hope for a stabilization in the manufacturing sector where profits are on the rise. Factories are getting closer to full capacity as evidenced by an average utilization rate that’s the highest in 9 years. Utilization rates are at all-time highs in transportation equipment, wood and paper manufacturing, and close to hitting a new record in food manufacturing. That said, the timing of an investment rebound is unclear as factories may opt to wait for economic headwinds to abate and for confirmation about sustainability of foreign demand.

The poor handoff from March ─ GDP contracted 0.2% in that month ─ makes an already-battered Q2 (because of the impact of Alberta’s wildfires) even worse. So, Canada’s economy likely contracted in the second quarter, leaving first half GDP growth averaging about 1% annualized. We’re expecting a better second half helped in part by a rebound in Q3 in synch with clean-up and rebuilding efforts and as oil production recovers. The wildfires may have trimmed a tenth of a percentage point from the annual growth rate assuming oil production was at half capacity for a month.

130

135

140

145

150

155

160

165

170

175

180

185

190

195

200

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016-5

-4

-3

-2

-1

0

1

2

3

4

5

6

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Canada: Domestic demand remains soft

Real non-residential business investmentReal GDP and real final domestic demand


Real GDP

Real final domesticdemand

Domestic demand remains weak … … saddled by business

investment which continues to fall

Q1

y/y % chg. index

-18%

-23%

68

70

72

74

76

78

80

82

84

86

88

1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 60 65 70 75 80 85 90 95

TOTAL

Oil and gas

Construction

Manufacturing

Power

Forestry

Mining

1997/2007 average 2016Q1

Canada: Excess capacity slowly being absorbed

Capacity utilization rates by sectorCapacity utilization rate

%

%

NBF Economics and Strategy (data via Statistics Canada)

Manufacturing

TOTAL

-0.25

-0.20

-0.15

-0.10

-0.05

0.00

1 week at halfcapacity

2 weeks at halfcapacity

1 month at halfcapacity

2 months at halfcapacity

Hit to 2016 GDP growth under different scenarios for oil sands output

%

NBF Economics and Strategy


8

Despite a weak rate of growth in the first half of 2016, the labour market showed surprising resilience. The private sector created 85,000 net new jobs from January to May, the biggest tally for the first five months of the year since 2012. Looking at the performance in the last 12 months to get a more reliable picture of the labour market, a decent 9,000 net new jobs have been created per month on average, all full-time and paid (i.e. not self-employment). The services sector continues to more than compensate for cutbacks in the goods sector, the latter hammered by layoffs in resources and manufacturing.

Labour market resilience explains the continued strength in consumption but also in the housing market. The Teranet-National Bank house price index showed the annual home price inflation rate rising to 9% in May, the highest since 2010. Reflecting strong employment creation in Toronto and Vancouver, home prices in those cities and surrounding areas are up a stunning 15% year-on-year on average, the highest in six years. The surge in home prices has not surprisingly caused the pace of mortgage growth to accelerate in recent months. Household debt has increased as a result. But thanks to low interest rates, interest payments as a share of household disposable income are at record lows. Overall debt service, i.e. payment of interest and capital, remains manageable as it accounts for 14% of disposable income. That’s below 2007 levels despite home prices surging about 50% over the last nine years. Still, one should not be complacent about the risks posed by household debt. Should the labour market take a dive and/or the housing boom turns to bust, a disorderly deleveraging cannot be ruled out.

We continue to expect trade to be major driver of Canadian growth this year and next. Looking through the seesaw pattern ─ contributions to growth in Q1 and probably in Q3 as well sandwiching a likely drag in Q2 ─ a clear uptrend should be visible for exports. Despite challenges brought by lost market share in the US, exporters are indeed benefiting from a more competitive Canadian dollar and strengthening US demand. The impact of Brexit on Canadian exporters is unclear at this point. Softer demand from a weaker UK economy could hurt, although it’s worth noting only about 3% of Canada’s goods exports goes to the UK. Moreover, there could be offsets from other EU nations increasing imports from Canada to compensate for lower imports from the UK (if they want to make an example out of Britain to deter more exits from the EU). What’s more likely to hurt Canada are uncertainties created by Brexit which may cause a slowdown in overall global growth and hence hurt commodity prices and Canada’s export volumes. We have accordingly lowered our Canadian GDP growth forecasts to 1.2% this year and to 1.7% for 2017. With enhanced uncertainties about growth, don’t expect the Bank of Canada to tighten policy any time soon, more so with inflation expected to soften in synch with softer import prices. Rate cuts are also unlikely at this point considering upcoming fiscal stimulus and the central bank’s concerns about rising household debt.

-4

-2

0

2

4

6

8

10

12

TOTAL Private Government Self Full-time Part-time Goods Services

Thousands/month avg.


Canada: Services sector supporting employmentEmployment according to Labour Force Survey, June 2015-May 2016

Canada: Household debt serviceCapital and interest payments as a % of household disposable income

NBF Economics and Strategy (data from Statistics Canada)

%

0

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

Capital payments

Interest payments

%

-1.2

-0.8

-0.4

0.0

0.4

0.8

1.2

1.6

2.0

2.4

2.8

3.2

3.6

-4

-3

-2

-1

0

1

2

3

4

5

6

7

8

2010 2011 2012 2013 2014 2015 2016

Import prices (L)

Canada: Import prices have softenedCore goods (excluding indirect taxes) and merchandise import prices ex. energy and raw/intermediate food


Core goods(R)

y/y % chg. y/y % chg.


9

Q4/Q4(Annual % change)* 2013 2014 2015 2016 2017 ### 2015 2016 2017

Gross domestic product (2009 $) 1.5 2.4 2.4 1.9 1.8 2.0 2.0 1.6Consumption 1.7 2.7 3.1 2.5 2.4 2.7 2.3 2.3Residential construction 9.5 1.8 8.9 10.6 4.1 9.4 10.0 2.0Business investment 3.0 6.2 2.8 0.3 2.5 1.5 1.5 2.0Government expenditures (2.9) (0.6) 0.7 1.2 1.4 1.1 1.3 1.2Exports 2.8 3.4 1.1 (1.5) (2.5) (0.6) (2.5) (2.3)Imports 1.1 3.8 4.9 1.0 2.4 2.9 1.4 2.5Change in inventories (bil. $) 61.4 68.0 97.5 68.9 66.9 78.3 68.1 66.1Domestic demand 1.2 2.5 2.8 2.2 2.3 2.5 2.3 2.1

Real disposable income (1.4) 2.7 3.5 3.0 1.9 3.3 2.6 1.8Household employment 1.0 1.6 1.7 1.6 0.9 1.4 1.4 1.1Unemployment rate 7.4 6.2 5.3 5.1 5.2 5.0 5.3 5.2Inflation 1.5 1.6 0.1 1.2 2.0 0.4 1.5 2.0Before-tax profits 2.0 1.7 (3.1) (4.0) 4.5 -11.5 3.7 4.5Federal balance (unified budget, bil. $) (680.2) (483.3) (439.0) (544.0) (561.0) ... ... ...Current account (bil. $) (376.8) (389.5) (484.1) (508.8) (515.8) ... ... ...

-304

* or as noted

Current Q4 2015 Q4 2016 Q4 20176-22-16 Q3 2016 Q4 2016 Q1 2017 Q2 2017 2015 2016 2017

Fed Fund Target Rate 0.50 0.50 0.50 0.50 0.50 0.50 0.50 1.00 3 month Treasury bills 0.27 0.26 0.26 0.29 0.29 0.16 0.26 0.82 Treasury yield curve 2-Year 0.75 0.59 0.66 0.72 0.81 1.06 0.66 1.05 5-Year 1.20 1.07 1.18 1.21 1.30 1.76 1.18 1.53 10-Year 1.69 1.55 1.65 1.69 1.76 2.27 1.65 1.92 30-Year 2.50 2.38 2.46 2.49 2.54 3.01 2.46 2.67 Exchange rates U.S.$/Euro 1.13 1.06 1.08 1.09 1.10 1.09 1.08 1.10 YEN/U.S.$ 105 99 102 105 107 120 102 110

National Bank Financial** end of period

United StatesEconomic Forecast

Financial Forecast**


10

Q4/Q4(Annual % change)* 2013 2014 2015 2016 2017 2015 2016 2017

Gross domestic product (2007 $) 2.2 2.5 1.1 1.2 1.7 0.3 1.5 1.7Consumption 2.4 2.6 1.9 1.9 1.4 1.6 1.6 1.4Residential construction (0.4) 2.5 3.8 2.1 (1.6) 2.8 0.4 (1.0)Business investment 2.5 0.0 (10.6) (10.5) (3.6) (15.8) (8.0) (1.3)Government expenditures (0.8) 0.6 1.8 2.0 3.6 1.6 3.5 2.2Exports 2.8 5.3 3.4 2.1 4.1 2.3 2.8 4.2Imports 1.5 1.8 0.3 (0.5) 2.6 (2.7) 2.2 3.0Change in inventories (millions $) 15,476 9,869 3,907 660 2,596 -5,586 867 4,222Domestic demand 1.3 1.6 0.3 0.5 1.2 (0.6) 1.0 1.2

Real disposable income 3.4 1.1 2.6 1.4 1.8 1.6 1.7 1.9Employment 1.4 0.6 0.9 0.6 0.6 0.8 0.4 0.7Unemployment rate 7.1 6.9 6.9 7.3 7.3 7.0 7.5 7.2Inflation 0.9 1.9 1.1 1.5 2.0 1.3 1.6 1.9Before-tax profits 0.8 7.0 (15.8) (4.1) 8.8 (19.6) 3.5 9.5Current account (bil. $) (59.7) (44.9) (62.6) (64.1) (56.1) .... .... ....

* or as noted

Current Q4 2015 Q4 2016 Q4 20176-22-16 Q3 2016 Q4 2016 Q1 2017 Q2 2017 2015 2016 2017

Overnight rate 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 3 month T-Bills 0.52 0.48 0.46 0.46 0.46 0.50 0.46 0.66 Treasury yield curve 2-Year 0.60 0.54 0.58 0.67 0.71 0.48 0.58 0.91 5-Year 0.70 0.68 0.86 0.98 1.02 0.73 0.86 1.30 10-Year 1.23 1.25 1.32 1.39 1.43 1.40 1.32 1.67 30-Year 1.87 1.90 1.94 1.99 2.01 2.15 1.94 2.20

CAD per USD 1.28 1.37 1.35 1.32 1.31 1.39 1.35 1.33 Oil price (WTI), U.S.$ 49 40 45 50 52 37 45 50

National Bank Financial** end of period

CanadaEconomic Forecast

Financial Forecast**


ECONOMICS AND STRATEGY

Montreal Office Toronto Office 514-879-2529 416-869-8598 Stéfane Marion Marc Pinsonneault Warren Lovely Chief Economist & Strategist Senior Economist MD, Public Sector Research and Strategy [email protected] [email protected] [email protected]

Paul-André Pinsonnault Matthieu Arseneau Senior Fixed Income Economist Senior Economist [email protected] [email protected]

Krishen Rangasamy Angelo Katsoras Senior Economist Geopolitical Associate Analyst [email protected] [email protected]

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