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Current economic conditions
The year began on a weak note, as cold weather helped freeze GDP in January while job growth stalled in February and March. Household spending so far was undeterred by the slowdown in jobs, but firms remain hesitant to spend.
Figure 1 shows how the four major sectors of the economy have changed their net lending in recent quarters.1 The most pronounced shifts have been in the household and corporate sectors. Corporations have steadily raised their surplus (net lending) from near zero in 2000 to 3% of GDP a year ago, and then to 4.9% in the last quarter of 2003. Conversely, the deficit (net borrowing) for households, which was less than 1% of GDP up to mid-2002, jumped to a record 4% last quarter. Government surpluses have fallen slowly from their peak of over 3% of GDP to 1.6%, while our net lending to the rest of the world (which actually is recorded as net borrowing by non-residents in the Accounts) has been fairly steady, at 2.4% last quarter.
The recently released data on the National Balance Sheet Accounts show how these trends have been reflected in sectoral wealth. The mix of financial and non-financial assets and type of debt in each sector also sheds some light on the reasons for these trends.
Corporate net wealth continued to rise the most, up 2.3% in the fourth quarter versus a 1.1% increase for households, reflecting faster growth for profits than wages and salaries. Meanwhile, governments continued to repay their debt, while our net liabilities to non-residents also fell steadily.
Households and corporations remain committed to fundamentally different strategies in allocating their wealth. The personal sector favours increasing its holdings of non-financial assets, notably those related to real estate. Households have generally shifted from financial to non-financial assets since the stock market crash in 2000, mostly from equities to housing despite the recovery of the stock market in the past year.
Conversely, the corporate sector’s priority continued to be rebuilding its balance sheet before investing more in tangible assets. As a result, financial assets grew three times the rate of non-financial assets. And within their financial assets, firms emphasized the short-term, notably cash and bank deposits.
The same was true for liabilities, with households and corporations adopting opposing strategies. Firms shortened the term structure of their debt, while households lengthened it. In the personal sector, debt has shifted over the last two years away from mortgages and into short-term debt such as consumer credit and bank loans. Corporations have done just the opposite, moving out of short-term debt and into mortgages and bonds to lock-in today’s low interest rates.
Meanwhile, our two most indebted sectors – government and external, as a result of chronic deficits prior to 1995 – saw their financial balance improve last quarter. Governments continued to pay down their debt by about $12 billion, mostly bonds. Our net external liabilities also fell about $12 billion, partly as Canadians bought back firms from foreigners for a second straight quarter while stepping up acquisitions of firms in other countries. The stronger dollar also further reduced the value of our bonds held by foreign investors.
For the second consecutive month, a drop in part-time positions pulled down employment by 0.1%, although private payrolls held steady. With the labour force also stagnating so far this year, the unemployment rate was little changed at 7.5%.
The loss of jobs was concentrated in services, which gave back most of their gains made at the start of the year. Business services and education led the retreat. Manufacturing did rebound from a sluggish start to the year, as the US economy picked up and the dollar weakened. However, construction did not respond to milder weather and lower interest rates.
Ontario felt the loss in services the most of any province, especially business services. As a result, its year-over-year job growth fell to 0.9%, below the national average for one of the few times since its slump in 2001 (when the high-tech bubble burst). Weakness in services also pulled down all of the Prairie provinces. Conversely, services helped BC post the only significant gain in jobs among the regions. Hours worked in Atlantic Canada rebounded from a storm-related drop in February.
The composite leading index rose by 0.4% in February, comparable with the revised increases in December and January. Six of the 10 components advanced, one more than in January as the money supply turned up. The sources of strength and weakness have remained the same over the last three months. Manufacturing led the gains, after lagging behind most of last year. Household demand was mixed.
After being frozen by a cold snap in January, household demand was spotty in February as employment slowed and consumer confidence slumped. Housing and sales of durable goods both trended down for a third straight month; the housing index had hit a 30-year high in November. Demand will receive a boost from sharply lower energy bills and another drop in interest rates early in March. Some recovery already was evident in February auto sales and housing starts. Furniture and appliance sales accelerated, partly as prices for these goods have fallen every month since October.
The increase in investment intentions for 2004 was one of the main factors in new orders for manufactured goods posting one of its best gains in two years. However, labour demand by manufacturers continued to recede, with both jobs and the average workweek contracting. Manufacturers continued to meet rising demand by reducing inventories, leading to the longest string of increases in the ratio of shipments to stocks since 2002.
The US leading indicator pick up slightly from 0.3% to 0.4% growth. Manufacturing was one the main reasons for this improvement, led by investment and autos. US factory output rose 1% in February, an encouraging trend for our exports of industrial materials.
The coldest January in years dampened GDP, as the volume of output dipped 0.1% after three consecutive increases. Record-setting demand for natural gas and electric power sent utility demand up 4.1%. But the boost to heating demand was offset by losses in most industries where work is largely done outdoors. Building construction was the most affected. Mining and other primary industries both trimmed operations. Manufacturing output was pulled down by losses in resource-based industries such as wood, paper and metals. As well, auto assemblies fell in line with weak sales in the US.
Overall services were unchanged, their first month without advancing since the blackout last August. The drop in resource output adversely affected wholesale trade and transportation, especially bulky commodities shipped by rail. Household demand remained robust for retail goods and real estate, while strong stock and commodity markets boosted the financial sector. Telecommunications snapped out of a 7-month slump with a 1.7% gain. This led the overall expansion of the ICT sector, which has gone three months without a decline, the longest such string in a year.
Consumers were undeterred by the severe cold snap in January. The volume of retail sales rose 0.9%, the best gain since last May. The cold did affect the location and distribution of sales. Consumers showed a marked bias to shop at major retailers and department stores, where sales were up 6.9% and 5.9% year-over-year compared with an overall increase in retail sales of just 1.2%. Presumably, this partly reflects a preference to shop at indoor malls; also, several new stores opened. As well, the increasing trend to gift certificates at Christmas also favours large stores.
Clothing demand was the strongest of any category, and the 2.6% increase was the best since the previous January (which was also unseasonably cold). Spending remained strong for durable goods such as furniture and appliances and computers, all areas where large retailers dominate. Lower prices helped boost food consumption. Conversely, auto sales (which largely take place outdoors) fell, although they did recover in February.
The rebound of retail sales in January was all the more impressive as it accompanied sharply higher outlays for home heating: for example, residential natural gas demand was 11% above January 2003 (itself an unusually cold month). This means that total consumer outlays for goods rose at twice the rate of retail sales.
Housing starts rebounded 10% in February to recover almost all of their losses in January. Multiple units, which were the most affected by January’s cold snap, shot up nearly 20%. Multiple units account for almost half (47%) of all starts in Canada, compared with only 20% in the US. New and existing home sales also rebounded in January.
Trade flows across the border fell sharply in both directions in January, leaving the trade balance little changed at just over $5 billion. The auto sector hit the brakes the hardest, as it moved decisively to rein in inventories.
Export earnings tumbled 4.7% to $31.8 billion, their lowest level since October 1999, despite a 1.2% increase in prices due to energy. Auto and consumer goods suffered the largest losses, despite healthy retail sales south of the border. Similarly, exports of machinery and equipment softened despite rising investment demand in the US.
Declines in other areas appear related to specific events. Housing demand in the US dived along with the temperature, pulling down our lumber exports. Labour disputes in mining dampened shipments of industrial goods. Food was weakened by another drop in cross-border trade in animals due to mad cow disease.
Imports fell 5%, although unlike exports the drop was exaggerated by a 1.4% drop in prices. Autos led the decline, especially passenger cars after sales in Canada fell steadily since September. A drop in machinery and equipment was largely confined to aircraft. Imports of meat plunged by one-third since the discovery of mad cow in the US.
The consumer price index dipped 0.1% between January and February, slowing the annual rate of inflation to a 27-month low of 0.7%. Inflation had peaked at 4.6% last February when energy prices soared in the run-up to the Iraq war.
Lower prices were concentrated in durable goods, which benefited the most from lower import prices as the exchange rate rose over the past year. Manufacturers stepped up rebates on autos after several months of slower sales, while recreation and home entertainment equipment saw steady price drops. As well, the cost of imported fruits and vegetables declined. Energy remained the main source of upward pressure on prices, with increases in the world price of crude oil raising domestic gasoline prices while heavy demand pushed up prices for home heating fuels.
Commodity prices continued to climb, led by a rebound in energy prices, which returned to near their cold-induced highs set in January. While there have been occasional higher spikes in crude oil prices (usually related to wars in the Middle East), oil prices over the first quarter averaged their highest level on record. Most metals prices continued to improve, except nickel, which has fallen steadily since the end of a labour dispute at Falconbridge.
Producers saw higher commodity prices translate into increased earnings, as the Canada/US exchange rate fell early this year. This has already had a significant impact on industrial prices, which jumped 1.8% between January and February, their largest hike since January 1995. Prices rose for 17 of the 21 commodities, led by oil, metals, forestry and auto products, a reflection of the pervasive impact of the exchange rate for industry.
The stock market fell 2.3%, its first loss in five months (the last drop, in September 2003, also followed five straight increases). Losses were widespread, especially for information technology and telecoms. Gold posted the only significant advance.
The Bank Rate was cut another 25 basis points in March, its fourth straight such decline, which returned it to its April 2002 level. The Canadian dollar stabilized at around 75 cents (US) after declining in the first two months of the year, although it continued to depreciate against the euro.
Corporate fund-raising in February continued to emphasize new equity at the expense of bonds for a third straight month. Short-term business credit levelled off in the first two months of the year, after a sharp downward trend in the last 9 months of 2003.
Business investment intentions for 2004 were strongest in Quebec, where firms plan a 10% increase. Almost half of this originates in primary metals (including smelting and refining), where investment has almost quadrupled in two years. But the focus of this spending has shifted from construction to machinery and equipment as projects near completion. Elsewhere, utilities plan a small increase on the heels of a large expansion the year before.
Ontario also rebounded from a slowdown in 2003 with a 3% increase in business investment for this year. The advance was widespread, with gains in mining, transportation and utilities (after last year’s blackout). Cuts in transportation equipment led a drop in manufacturing, after large investments in machinery and equipment last year.
BC led investment plans in Western Canada, where gains for utilities and lumber offset a slowdown in energy-related projects. Alberta posted a second consecutive year of only marginal growth, after rapid gains early in the decade, largely because of a stall in spending by the oil and gas industry. Newfoundland and New Brunswick led the Atlantic provinces, with strength in mining, utilities and paper.
Payrolls in the United States grew by 308,000 in March, their largest increase after six months of sluggish growth. Services led the advance with widespread increases. Construction snapped out of a 2-month freeze as temperatures moderated. Manufacturing finally levelled off, after nearly four years of uninterrupted losses had cost 3 million workers their jobs. Despite the increase, the employment ratio in the US remains below Canada (62.1 versus 62.4).
Last year, there was much public discussion of the reported gap between the payroll and household survey measures of employment. While there are many conceptual differences between the two (for example, payrolls exclude farm workers and the self-employed but capture all jobs held by multiple job holders), much of the distortion in the past year came from an upward adjustment in the January 2003 data for undercoverage by the household survey since the 2000 Census. Once this factor dropped out of the year-over-year comparisons, the two series show a similar trend in jobs: year-over-year growth in March 2004 was 0.7% in the household survey and 0.5% in payrolls.
Retail sales rose 0.6% in February, after January’s estimate was revised from a decline to a 0.2% increase. Auto sales led the way, recovering almost all of their retreat the month before. Housing-related demand continued to post the fastest gains over the 12 months, with furniture, appliances and building materials all posting double-digit growth. But the slowdown of housing in the first two months of 2004 has seen these sales level off. Instead, demand shifted to clothing, reflecting the unusually cold weather.
Housing starts fell another 4% in February, after a 6% drop the month before. Still, starts remain 13% ahead of the pace of February 2003. Ground-breaking on structures rose the most in the Northeast and Midwest, the regions most affected by January’s cold snap. But these were offset by losses in the South and West. More importantly, new home sales jumped 6%, to stand nearly 25% above the February 2003 level. Demand remained skewed to homes costing $300,000 or more: they were 27% of the market in February, up from 22% a year ago.
Industrial production continued to recover strongly, with a 0.7% advance in February on the heels of a 0.8% increase the month before. While demand for utilities retreated as temperatures warmed up, manufacturing output picked up the slack with a 1.0% gain. Business equipment led the way as investment spending strengthened, lifting output by 4% in the last year, the most of any sector. Consumer goods were buoyed by strong gains for home electronics and a recovery for auto assemblies. New orders in February recovered their losses of the month before. Capital goods led the increase, putting orders so far this year 10% ahead of last year’s pace, largely due to the upturn in investment.
Output slowed in the eurozone as industrial production fell 0.4% in January. Every sector, with the exception of durable consumer goods, contracted in the month. New orders fell 3.2%, led by large declines in machinery and equipment, chemicals and transport, which more than offset strong gains in textiles and metal products. The continued strength of the euro resulted in the eurozone’s first current account deficit in nearly a year. As well, there was a large net outflow of foreign direct investment. The annual rate of inflation fell to 1.6% in February from 1.9% the month before, while the unemployment rate remained stable at 8.8%.
German industrial production rebounded 0.4% in January after stalling at year-end. New orders declined, however, for the first time in six months, as demand for machinery and equipment tapered off. The unemployment rate inched up to 9.3% in February, while the annual rate of inflation of 0.8% was one of the lowest in the eurozone.
The British economy picked up early in the new year. Industrial production rose in January, while retail sales surged 6.5% in the year to February. Unemployment continued its downward trend, falling to 4.8% in January, while inflation eased to 1.3% in February.
Japanese consumer spending continued to improve in February for the fourth consecutive month. Retail sales rose 0.9% from a year earlier, although the gain was helped by the leap year. Deflation eased, with prices the same level as last February. The stock market hit its highest level in 21 months, while the trade surplus rose for the eighth straight month to its highest level since 1998. Exports grew 10%, while imports fell 1%. For the first time in a decade, exports to China (up 15%) outstripped imports (up 5%). Exports to the US fell for the fourteenth month in a row.
Southeast Asia continued to post robust gains in growth. The South Korean economy grew 2.7% in the fourth quarter of 2003, its fastest pace in almost two years. Exports gained 11%, led by semiconductors and autos, spurring a 4.3% rise in capital spending. China ran a trade deficit in February as imports jumped 77% from a year earlier, outstripping a 40% gain in exports.
* Based on data available on April 8; all data references are in current dollars unless otherwise stated.
1 In principle net lending/borrowing by the 4 sectors sums to zero.