Nice recovery

Kevin Press - Sun Life Financial

July 27, 2009

The recession is over. It was steep, the worst since the Second World War. But it was brief, lasting just three quarters. Compare that to the 1990-92 recession, which lingered for eight quarters. Before that, the 1981-82 downturn went six quarters. Canada’s economy will begin to grow again now. It will expand an impressive 3% next year and 3.5% in 2011.

So sayeth the Bank of Canada. Governor Mark Carney released the bank’s July Monetary Policy Report, saying “growth in Canada should resume this quarter.”

The bank has taken a bit of heat over the report, not surprisingly. One commenter to a piece in The Globe and Mail accused Carney and the bank of “pure hubris.” The National Post reminded readers that Canada’s nearly 1.6 million unemployed aren’t exactly feeling the love yet. We’re struggling with an 8.6% national unemployment rate. The country has lost roughly 370,000 jobs since the recession began, and that number continues to grow. In June, 7,400 Canadians lost a job (which compares favourably to the 41,800 who experienced the same in May).

On balance, the July report is a reasonable read of the global and domestic economies. There are a couple of important caveats to understand, and the predictions are just judgment calls. Take them for what they’re worth.

Three highlights (I’ve lifted the bold text from Carney’s remarks last week):

• Global economic activity appears to be nearing its trough, and there are increasing signs that activity has begun to expand in many countries in response to monetary and fiscal policy stimulus and measures to stabilize the global financial system. The data does support the notion of a trough, as this excellent piece in The Economist reports. But can we count on recovery? It is not nearly as certain that global demand will rise in support of a strong comeback. Unemployment continues to be a major factor in the U.S., for example, even as a similar technical recovery has begun. Paul Krugman said as much on This Week yesterday. Canadian economist Dale Orr released a report at the beginning of this month that predicted continued increases in Canadian unemployment rates until 2014. Even the Bank of Canada describes the recovery as “nascent.”
• However, the higher Canadian dollar, as well as ongoing restructuring in key industrial sectors, is significantly moderating the pace of overall growth. Federal Finance Minister Jim Flaherty made news a day after the bank when he said: “We’re conscious of the fact that there has been some recent increase in the value of the dollar. The concern always is volatility and the rapidity of change.” No kidding. The Canadian dollar is up a nickel this month, relative to the U.S. dollar. It’s risen about 12.5% since the start of the year. An expensive dollar hurts Canadian exporters because our products become pricier on global markets. Export Development Canada says exports will decline 21% this year. This will obviously depress economic growth.
• On Tuesday, the Bank reaffirmed its conditional commitment to maintain its target for the overnight rate at the effective lower bound of 1/4 per cent until the end of June 2010 in order to achieve the inflation target. Canada’s benchmark lending rate is at a record low. The bank’s commitment to leave it there will help the economy grow and keep the dollar’s value down. There was concern earlier in the year, as central banks lowered rates to historic lows, that they were leaving themselves little or no room for future rate cuts if the economy demanded them. It appears Canadians have dodged that bullet.

On the whole, there is a compelling argument to be made that the recession has ended here. The rate of recovery is not nearly as certain though. The Bank of Canada’s predictions of 3% growth in 2010 and 3.5% growth in 2011 are based on an average value of the Canadian dollar of 87¢ U.S. (It has averaged that value since the bank’s last report in April.) But our dollar is trading above 92¢ today.

The Canadian dollar’s value is closely linked to oil and other commodity prices because of the make-up of our economy. As those prices continue to rise, the 87¢ assumption will be tested.

In other words, our upturn may not be as sharp as our downturn was. It’ll be a nice recovery, perhaps. But maybe not much more.