Canada’s economy produced a full month of better-than-expected economic data, helping to crank up inflationary pressure beyond expectations in February and put the Bank of Canada in the uncomfortable position of possibly breaking its pledge on interest rates.

Following the release of key inflation and retail sales data Friday from Statistics Canada, at least one Bay Street economics team revised upward its growth forecast for the first quarter by a full percentage point, and indicated more positive revisions could be in the offing.

The data, however, failed to power the Canadian dollar’s march to parity with its U.S. counterpart — although the loonie nonetheless made big gains Friday against the world’s other major currencies, as it set a three-decade high against the British pound and a 28-month high against the euro.

In all, Friday’s developments suggest the Canadian economy is roaring back at a pace that might be setting off warning bells at the Bank of Canada, which had conditionally pledged to keep its benchmark rate at 0.25 per cent until July to get the economy back on track.

“There is simply no mistaking that growth and inflation have more underlying power than even the most strident optimist would have believed just a few short months ago,”

said Douglas Porter, deputy chief economist at BMO Capital Markets, which accordingly upgraded its first-quarter GDP forecast for Canada Friday to 4.7 per cent expansion, from its previous 3.7 per cent expectation.
Retail sales was the last piece of data to emerge from January, and with that Porter said Canada produced an “unbelievable” full month of better-than-anticipated economic data. For the record, retail sales jumped 0.7 per cent in January, above the 0.6 per cent consensus.

However, when autos are excluded, sales surged 1.8 per cent, or the biggest one-month gain since late 2007. This was due, in part, to a 7.4 per cent increase in sales at outdoor supply stores, as households rushed to buy building supplies before the one-time federal home renovation tax expired on Feb. 1.

Meanwhile, all eyes were on February inflation data, which proved to be equally robust, with the core rate — watched closely by the Bank of Canada — posting a surge beyond the key two per cent threshold.

Statistics Canada core inflation, which strips out volatile-priced items such as food and energy, advanced 2.1 per cent year-over-year in February, whereas analysts anticipated a 1.7 per cent year-over-year increase.

The Bank of Canada’s last economic outlook, tabled in January, envisaged core inflation to average 1.6 per cent in the first quarter and 1.7 per cent in the second quarter. The central bank’s pledge on rates was conditional on its inflation outlook unfolding as anticipated.

“The Bank of Canada has all the evidence it needs to convince itself it doesn’t need emergency policy measures anymore, I think (the data) tells you the economy is firing on a lot of cylinders.
I continue to believe the bank will wait until July but they must be getting incredibly uncomfortable with that long of a wait”

said Andrew Pyle, wealth adviser and markets commentator with ScotiaMcLeod.

The inflation data come with a caveat, as the Vancouver Olympics drove up prices in some key areas, notably travel and lodging. Nevertheless, Porter said inflation would still be above the central bank’s forecast even if the Olympic-related numbers were adjusted.

Mark Carney, the Bank of Canada governor, might shed further light on the central bank’s outlook in a speech in Ottawa this coming Wednesday.

There was anticipation that robust inflation data could finally propel the loonie to parity with the U.S. dollar. That was not the case, however, as traders cashed in on profits and sought safety in U.S. dollars, largely due to uncertainty as to how the eurozone would deal with Greek debt problems, and an unexpected rate hike in India. The dollar closed Friday at 98.39 cents U.S., down slightly from the previous session.

“The market remains unwilling to take the final plunge (toward parity) without the support of improving global sentiment,” said Matthew Strauss, senior currency strategists at RBC Capital Markets.

Source:
edmontonjournal.com

The federal budget introduced on March 4th will be forgotten within a week. In many ways this budget should be seen as a transitory budget, with no major initiatives. All the difficult decisions were postponed until the 2011 budget.

But what’s very clear at this point is that from a global perspective, the stimulus and bailouts of yesterday will turn into the fiscal tightening of tomorrow. The US might turn out to be the most difficult case. The issue is not only that the US current budget deficit is close to 10% of GDP, but also the composition of the deficit. Note that “pure” expenditure growth (that is program spending) by the government was not very large and this boost was offset by a de-facto spending cuts by state and local governments. So at the end of the day over the past year, we have seen only $40-$50 billion of pure spending—nothing to write home about. The vast majority of “spending” (close to $500 billion) was in the form of transfer to financial institutions, individuals and lower taxes. Note, for example, in US, all the growth in personal income currently is due to transfer payments and lower taxes. Wage income is actually falling. The point here is that when it comes to taxes and transfer payments, it is much more difficult (politically speaking) to cut when compared to pure fiscal spending.

Also remember that in both the US and Canada, the ability to cut the deficit in the 1990s was largely helped by falling interest rates, and in the case of Canada, a very weak dollar. Both factors are not at play in the current situation. Accordingly, look for any improvement in the fiscal situation to be limited.

The practical implication here is that huge budget deficits cannot co-exist with record low interest rates. Something will have to give. And this something must be interest rates. The new global fiscal reality suggests that long-term interest rates will probably rise faster than short-term rates in the coming 2-3 years—leading to a notable steepening in the yield curve.

In this context, Greece will try to sell enough bonds next week to finance the close to $30 billion of debt that is about to mature in April and May. Note that after these two months, the refinancing situation of Greece will improve for a while with much less debt expected to mature in the following months. So they have to go through the next two months before getting a break. At this point it is far from clear that the market will be willing to absorb this amount of Greek debt—so look for some volatility next week.

The US labour market is still unable to create jobs and start reversing the trend that cost no less than 8 million jobs during the recession. But if you look at overall manufacturing activity in the US, you will see a very different picture with an impressive rebound in production activity. In fact, the manufacturing sectors on both sides of the 49th parallel are showing signs of life. But the improvement in the US is not only stronger, but also much more capital-intensive. The practical implication of the more capital-intensive manufacturing rebound south of the border is that despite the strong Canadian dollar, manufacturing employment in Canada will probably rise faster than in the US in the near term. However, given the increased prevalence of better- capitalized and more efficient production facilities stateside, Canadian manufactures will find it even more difficult to compete when the dust settles.

Benjamin Tal
Senior Economist

CBC News

The Bank of Canada has slightly raised its projection for growth in 2011, saying the Canadian economy will benefit from a faster-than-expected recovery in the U.S. this year.

The central bank said Thursday it expects the Canadian economy to grow by 3.5 per cent next year, up from its previous projection of 3.3 per cent.

It says GDP will grow by 3.5 per cent in the first quarter this year from Q4 of 2009. While that’s down from the 3.8 per cent quarter-over-quarter growth it was forecasting three months ago, the central bank now expects the economy to expand by 4.3 per cent in the second quarter and 4.0 per cent in the third quarter and 3.8 per cent in the final quarter of the year.

The Q2, Q3, and Q4 growth estimates are all increases from the central bank’s projections made last October.

“Export growth is projected to be somewhat stronger than was expected last October, owing to a more favourable outlook for the U.S. economy, particularly in the sectors that figure most importantly for Canadian exporters,”

the bank said in its quarterly Monetary Policy Report.

The Bank of Canada substantially hiked its estimate for U.S. economic growth this year from 1.8 per cent to 2.5 per cent.

It says overall growth in Canada this year will come in at 2.9 per cent — down a tenth of a percentage point from its estimate of three months ago.

Still, the overall tone of the new outlook was slightly more upbeat than three months ago.

“Economic growth is expected to become more solidly entrenched over the projection period as self-sustaining growth in private demand takes hold.”

Canada fared better in downturn

The central bank says the Canadian economy shrank by 2.5 per cent in 2009. That’s larger than its previous estimate of 2.4 per cent.

But even though real GDP in Canada contracted for three consecutive quarters, “the magnitude of the downturn was more modest than in other major advanced economies.”

The central bank estimated that Canada’s GDP fell 3.3 per cent from peak to the trough of the recession — less than most other advanced economies, even though exports plunged 20 per cent.

“Canada’s relatively solid economic performance, in spite of this trade shock, reflects the resilience of Canadian household demand. Consumer spending barely declined in Canada,”

“Canada has suffered less than many other countries, partly because of its sound banking system and relatively strong household and corporate balance sheets, and also because of the speed and scale of monetary policy actions.”

Employment levels likely bottomed last summer, according to the central bank.

“The deterioration in the labour market appears to have stopped,” Bank of Canada governor Mark Carney told a news conference. But the bank noted that its recent surveys have found that “ongoing weakness in the labour market is nevertheless evident.”

The jobless rate is now hovering around 8.5 per cent.

Inflationary pressures grow

Inflationary pressures in Canada are building slowly. The central bank now expects total CPI inflation in the first quarter will be 1.6 per cent, up two-tenths of a percentage point from its estimate in October. It projects inflation will jump to 1.9 per cent by the fourth quarter of this year, up three-tenths of a point from its last projection.

Core inflation, which excludes the more volatile items in the consumer price index, has been “slightly higher” than expected recently, the bank said. “Nevertheless, considerable excess supply remains, and the bank judges that the economy was operating about 3.25 per cent below its production capacity in the fourth quarter of 2009,” it said.

The outlook for global economic growth this year and next is “somewhat stronger” than it was in October, the bank added. But it warned that “the recovery continues to depend on exceptional monetary and fiscal stimulus, as well as extraordinary measures taken to support financial systems.”

On Tuesday, the Bank of Canada left its key lending rate at a rock-bottom 0.25 per cent and reaffirmed its commitment to keep it at that level through June, assuming inflation does not become a concern.