11-010-XIB
Canadian Economic Observer
January 2004

Summary Table - Key Indicators

Overview*

Job growth in December powered ahead for a fourth straight month, the strongest sign that the economy has shrugged off its mid-year lethargy. Output rose again in October, with the increase in jobs fuelling household spending. The upturn in the US economy also boosted demand for our natural resources, helping to offset the dampening effect of the rising Canadian dollar on manufacturing.

Employment rose 0.9% in the fourth quarter, easily surpassing the 0.2% gain in the US. This augurs a reversal of the relative performance of the two countries in the third quarter, when the US economy grew 2% versus our 0.3% gain. The much stronger growth of the US GDP compared with Canada’s in the third quarter resulted from a series of factors, mostly non-recurring.

Table 1 highlights which sectors of demand contributed to the faster growth of the US. Inventories alone accounted for 1.2 of the 1.7 percentage-point gap in growth between the US and Canada. Firms in the US, especially beleaguered manufacturers, kept a tight lid on inventories all year, and thus had to rev up output to meet higher demand. In Canada, inventories rose significantly in the first half of the year, leaving firms anxious to sell off stocks when demand improved. The third-quarter drop in inventories was concentrated in motor vehicles.

Table 1: Contribution to percent change in real GDP, third quarter 2003

Household spending in the US contributed only 0.5 percentage points more to growth than in Canada, despite a massive dollop of fiscal stimulus from the US Treasury. Of the $161 billion (or 2%) increase in disposable incomes (all of which was spent), nearly two-thirds is attributable to either lower taxes (-$64 billion) or higher transfers (+$30 billion). Meanwhile, wages and salaries grew only 0.6%, reflecting the slack in job creation that continued into the fourth quarter. By comparison, job growth in Canada accelerated in the fourth quarter, providing a solid base for sustained growth in household spending.

Net exports contributed slightly more to growth in the US than in Canada. This appears to partly reflect the long-run trend in exchange rates. On the one hand, the US dollar’s slide continues to accelerate, with the Federal Reserve Board’s broad index down 8.3% in 2003 after an initial drop of 3.4% in 2002. Partly as a result, the US manufacturing sector is pulling out of a prolonged slide, with output edging up in the third quarter before accelerating to a 4-year high of 0.9% growth in November. Conversely, the rapid rise in the Canadian dollar helped our manufacturing sector contract over the past year. Higher international demand for some of our commodities, notably energy and metals, has cushioned the slump in total exports.

The problems in electricity supplies had a much bigger effect on Canada’s economy, because a larger proportion our population was affected by the initial blackout and supplies in Ontario were much slower to return to normal, causing another week of lower output. As a result, industrial production in August retreated 0.8% here versus no change in the US, while services also fell 0.8% (no comparable monthly data exist for the US). The timing of the blackout in the second month of the quarter also aggravated its impact. Conversely, the large rebound in September leaves Canada well-positioned to post superior growth in the fourth quarter. Following a 0.2% gain in October, our GDP was already 0.7% above its third-quarter average.

Labour Markets

Employment rose 0.3% in December, its fourth straight comparable increase after only marginal gains in the first eight months of 2003. Full-time positions on company payrolls were the driving force of all the recent increases. While the labour force continued to expand, job growth was sufficient to reduce the unemployment rate to 7.4%, well below its high for the year of 8.0% set in September.

Industry developments were dominated again by the increasing dichotomy between losses in manufacturing and growth elsewhere. Indeed, this was the major theme in the labour market for 2003: overall job growth was steady at 2.2%, as a loss of 1.4% in manufacturing was offset by upturn to 2.9% for other industries.

Services posted a fourth straight solid month of growth. Health care led the way, while temporary help agencies and finance and real estate chipped in with large advances. Professional and technical services posted the only drop last year, reflecting weakness for computer services. Within goods, the loss of factory jobs was more than compensated for by gains in construction and natural resources (which led all industries with year-over-year growth of 10%). The former benefited from the housing boom, while the latter saw prices reach new cyclical peaks, especially for metals.

Most of the regions shared in the employment increase in December, unlike previous gains which were concentrated in specific areas. Ontario led the way, driven by services. BC posted its second large advance in the three months, partly due to construction, while the buoyancy of the primary sector helped the prairies grow. Quebec and the maritime provinces suffered a setback, as losses in manufacturing accompanied declines in trade- and travel-related services.

Leading indicators

The composite leading index rose 0.8% in November, comparable to its gains in October (0.7%) and September (0.8%). These were the best three months of growth since early in 2002. The components related to business spending took the lead in growth. The US leading indicator advanced steadily. Only one of the ten components declined.

Business spending in Canada posted its largest and most widespread gains in several months. Led by investment goods, new orders rose for the second time in three months, and the 2% advance allowed it to recoup a large part of the ground lost earlier this year. The ratio of shipments to finished goods inventories rose for the first time in 14 months. With demand rising, manufacturers ended five months of trimming the workweek, while employment turned up. Business services, especially help agencies, drove the upturn in services employment over the last three months. The optimistic outlook for firms was reflected in another increase for the stock market.

The US leading indicator grew steadily at 0.4%, with 9 out of 10 components rising. Manufacturing picked up after widespread gains in final demand, with orders rising for both consumer and investment goods. The average workweek started to recover some of its large losses of recent years, although this sector continued to shed jobs into November (in the post-war period, jobs in manufacturing began to recover on average six months after an upturn in the workweek). The housing market remained the focus of household spending, although vacancy rates remain high.

In Canada, the housing index retreated slightly from its 30-year high. This was the only one of the 10 components to decline. Furniture and appliance sales spearheaded household spending with a third straight gain of over 1%. Sales of other durable goods posted a sixth straight increase. Household demand was bolstered by the third consecutive large increase in jobs.

Output

Real GDP rose 0.2% in October, after the power blackout and subsequent recovery caused it to see-saw from a 0.8% drop in August to a 1.1% gain in September. Households remained the driving force of growth, notably new homes and retail demand. The increase in housing demand translated into widespread gains in non-metallic minerals and real estate. As well, spending on most services increased again, notably those related to travel.

Primary industries continued to expand. While energy output has levelled off over the last three months, metal mining and crops have picked up. Mining has completely recovered from the Inco strike over the summer. A return to more normal conditions for grain on the prairies benefited a wide range of related sectors, including storage, wholesalers, and manufacturers of pesticides and fertilizers.

But some significant sources of growth have turned sluggish recently. The most dramatic turnaround was in telecommunications services, which has not posted a gain since May, its longest drought on record (in fact, in the previous three years its worst setback was an occasional 0.1% dip). The resumption of a higher dollar coincided with a stall in manufacturing output in October, notably for auto assemblies and ICT goods despite higher demand in the US. Elsewhere, education posted a fourth straight drop, after gearing up in the first half of the year for Ontario’s ‘double-cohort’ of high school graduates.

Household Demand

Retail sales volume rebounded 0.6% in October, recovering half of its losses of the previous two months. More impressively, the gain in sales overcame another slide in demand for autos (which continued for a fourth straight month in November) and a slowdown for furniture and appliances.

Spending rose smartly for non-durable goods, fed by a sharp drop in their prices (especially energy). Lower prices also remained a strong lure for computers. Most other areas of consumption were little changed.

The housing market showed signs of cooling from its record-setting pace through most of 2003. Housing starts dipped 10%, although all of this drop originated in multiples, where the number of unsold units has been rising. Ground-breaking on single-family homes equalled their high for the year. The surge of home building, and a slowdown in new home sales, has nudged up the number of unsold homes after two years of steady decline. Meanwhile, existing home sales turned down in November after two months of growth sparked in part by September’s drop in interest rates.

Merchandise trade

After recovering in September from the effects of the power shortage in August, the underlying downward trend of trade flows across the border in both directions resumed in October. Most of the decline reflected the dampening effect of the rising Canadian dollar on prices of both exports and imports. In fact, excluding the 7% drop in prices, the volume of exports fluctuated in a narrow bond between $31.2 and
$31.9 billion over the past year (excluding the hiccup caused by the power outage). Imports were even more affected by the dollar’s rise, as a 13% drop in prices helped boost the volume of import demand by 4%.

Export earnings fell 4.2% between September and October, largely due to a 3.4% dip in prices, which fell for all non-farm areas. Machinery and equipment posted the largest drop in demand, leaving it 16% below a year ago, with losses in industrial machinery, aircraft and telecom equipment outweighing a slight increase for computers. Prices received for most resource products and autos fell, although the volume of demand held up well.

A 2.6% drop in imports lowered our nominal imports by 1.7% in the month. The retreat in prices affected all the major sector. But machinery and equipment was the only area where the volume of demand fell, led by another sharp drop for aircraft. Import volume was strongest for autos and other consumer goods, although only the latter’s strength was because of the volume of consumer spending.

Prices

The monthly consumer price index rose 0.3% in November, leaving the year-over-year rate of increase unchanged at 1.6%. In a reversal of recent trends, durable goods led the increase, largely because of a 4% hike in auto prices as the new model year arrived. Still, auto prices remained 1.6% below the level of a year ago. As well, the cost of food was pushed up by the largest increase in beef prices in nearly two decades. The recovery of beef prices from the mad cow discovery in May was temporary, however, as the first case in the US sent cattle prices tumbling early in the new year.

Conversely, energy prices dipped in November, but this drop will soon be reversed since commodity prices rose through to the end of the year. The price of services dipped for the first time since the aftermath of the September 2001 terrorist attacks, largely due to the end of a weak travel season that left prices in this sector 4% below a year ago.

Commodity prices completed a strong second half of the year. Energy prices led the 8% increase in December’s Bank of Canada index, fuelled by the price of crude oil. Industrial materials also rose, with copper and nickel hitting six and 14-year highs, respectively. Copper was boosted by supply problems, which forced an Indonesian supplier to declare force majeure, while a possible strike at Falconbridge helped boost nickel. The depreciation of the US dollar helped send gold to a 13-year high. Commodities priced in US dollars benefited throughout 2003 from the slide of the US dollar, which made them more affordable to many foreigners.

The rising dollar continued to push down prices received by manufacturers, which fell 0.4% in November after a 0.9% drop in October. Only 5 of 21 industries were able to raise prices in the month. Prices were 4% below their peak a year earlier, with the rise in the exchange rate accounting for all of the drop.

Financial markets

The Canadian dollar ended the year at 10-year high of 77.1 cents (US), a gain of 22% over the year. The strength of the dollar kept a lid on interest rates, with short-term rates holding steady as long-term yields continued to drift downwards.

The Toronto stock market capped a solid year of growth with a 4.6% gain in December: for the year it was up 24%, almost matching the increase in the US market. The December increase was led by double-digit gains for energy and metal stocks, where commodity prices strengthened further. Consumer and real estate stocks also posted solid gains, as the outlook for household demand improved with the rising dollar.

Firms stepped up their fund-raising in the autumn. New bond issues were particularly hefty at over $4 billion in November, as firms moved to lock in the current low level of interest rates. As well, corporations continued to pay down short-term debt, which fell $1.6 billion for its fifth straight decline (totalling $15 billion). The upturn in overall funds raised is consistent with increased business spending, on top of this restructuring of balance sheets. Household demand for credit grew steadily, led by mortgage credit.

Regional economy

In Ontario, demand was concentrated in capital spending, with commercial building permits growing by 33% (or $444 million) in October, especially in Toronto. Meanwhile, major retailers also signalled their intention to boost capital spending in 2004. This was one of the only sources of demand growth in Ontario, since housing starts gave up all the gains made since June and retail sales registered a fourth loss in five months (after the advance originally registered for September was revised down). In October, exports declined again. This brought them to 12% below last year’s level in a continuation of the slide that began at the start of the year. As a result, manufacturing shipments slid back into negative territory in October.

As in Ontario, exports remained a source of weakness in Quebec, as shipments of computer products resumed their downward movement and aerospace products remained weak, off about 30% from their peak of July 2001. However, household demand continued to strengthen, with retail sales registering a second strong increase in three months (0.8% in October) and housing starts remaining one-quarter above their level of last year. Non-residential permits were down sharply from last spring, but construction already underway continued to stimulate shipments of related products. There are more than ten major construction projects in Montreal—especially in the institutional sector—scheduled for completion during 2004.

In the West, as in Quebec, household demand was strong. Retail sales resumed their upward trend both in the Prairies and in British Columbia after dipping in September. Sales of existing homes strengthened, with British Columbia far ahead of the other provinces. Shipments presented a mixed picture. They continued to grow robustly in Alberta, led by capital goods. British Columbia registered its first drop in five months with forest products leading the way, while the threat of a strike at the Port of Vancouver eased. Shipments had grown substantially in September.

International economies

In the United States, the quarterly current account deficit shrank for the first time since the 2001 recession. The drop of $4.4 billion was sparked by an upturn in goods exports, notably capital and consumer goods, as well as gains in travel and investment income.

Several interesting developments occurred in the financial account. While foreign investors continued to purchase hefty amounts of US government debt ($50 billion at quarterly rates), they switched from buyers to sellers of corporate stocks and bonds. Overall, net foreign purchases of non-government securities slowed by over $75 billion to less than $10 billion, the lowest since 1998 and well off its peak of nearly $130 billion at the height of the stock market bubble in 2000. Meanwhile, Americans shifted their portfolios to include more foreign stocks and bonds.

Household demand showed few signs of slowing down, after leading growth in the third quarter. Housing starts rose 4.5%, breaking through the 2 million-unit mark for the first time ever. The 18% increase from a year ago was boosted by 35% growth in the West, where dwellings were recently destroyed by fires, and mild weather in the Northeast. However, new home sales in November fell for a third straight month and were 10% below their summertime high. The drop in demand accompanied a 10% jump in the median price of a new home, which passed $200,000 for the first time ever. Existing home sales remained firm.

Housing continued to fuel double-digit growth in retail sales of furniture and building materials. But the strength in retail sales was increasingly driven by other components. Leading the way in October and November were electronic products (which replaced building materials as the fastest growing area in the past year with a 15% gain) and health and personal care. Autos also made their first significant advance of the autumn.

Industrial production rose 0.9% in November, its largest gain in over four years despite a small dip in auto assemblies. Output of business equipment increased 1.7%, supplanting construction materials as the fastest-growing area in the past year. All high-tech sectors posted a second straight gain: however, the underpinnings of this growth were questionable in light of a 6% drop in new orders for capital goods, reversing the gains made over the previous two months. Computers and electronic products led the retreat, tumbling 11% in their largest setback since the implosion of the tech bubble in 2000, but still remained 10% ahead of last year’s pace.

Output rebounded in the euro-zone in October as industrial production grew 1.1%, recouping its losses in August and September. Capital goods led the gain, although recovery occurred in every major sector. New orders strengthened further, rising 1.6% in the month, despite a sudden reversal in demand for electronics and transport equipment. The external trade surplus widened slightly in October, while consumer spending remained flat in September, after continued weakness through the summer months. Inflation eased to an annual rate of 2.1% in December, down from 2.2% the month before.

Industrial production in France rose at its fastest pace in over two years in October, up 1.3% as utilities boosted output and the manufacturing of consumer goods accelerated. Exports and imports both rebounded in tune with the overall pickup in growth. Exports hit a nine-month high, aided by airplane deliveries to Asia. Imports, in turn, were boosted by increased purchases of Asian goods. The unemployment rate fell to 9.6% in November, from its previous three-year peak of 9.7%.

German industrial production surged in October, gaining 2.4% after being flat the month before. Exports remained strong, despite the 20% climb of the euro against the US dollar. New orders tapered off in the month, although they remained strong relative to year-earlier levels. Consumer spending recovered slightly in September with real retail sales edging up after two months of decline. A widespread economic reform package was passed by parliament at year end, affecting labour laws and tax measures.

In Italy, industrial output was unchanged in October, as a rise for energy offset a series of strikes. New orders were down slightly in the month, their second drop in three months. Consumer spending recovered slightly in the month of September, but continued its downward spiral from year-earlier levels.

Industrial activity continued to recover in the UK in October, gaining 0.9% on the heels of an upwardly revised 0.2% rise the month before. Consumers resumed spending in September, with real retail sales surging forward after two months of decline. Spending has been upbeat, however, against year earlier levels, rising 4.1% in the month, the largest increase in the euro-zone. Exports continued to wane, which, combined with a clampdown on VAT fraud (resulting in upward revisions in import data for the past five years), led to a larger trade deficit.

Japan’s economy grew 0.3% in the third quarter of the year, half the previous estimate, due to downward revisions in capital spending. Industrial production remained strong in November, rising 0.8% for its third consecutive monthly increase. Consumer spending was weak, in tune with a return to deflation. Prices contracted 0.4% in November year-on-year, after having risen the previous month for the first time in the five-year period. The merchandise trade surplus widened in November as import demand fell faster than waning exports.

* Based on data available on January 9; all data references are in current dollars unless otherwise stated.