11-010-XIB
Canadian Economic Observer
July 2006

Summary table - key indicators

Overview*

The economy in the spring was increasingly split between growth in services and a slowdown in goods. This dichotomy partly reflects the long-term effect of the rise of the exchange rate: while a boon to retailers and wholesalers as demand for lower-priced imports rose, it hampered manufacturing. As well, the resource and construction sectors paused, although the underlying trend of demand remains robust after these sectors had led growth in recent months and prices remain near record highs.

Consumer spending showed no sign of letting up. Retail sales volume expanded another 1.1% in April, after its best quarterly increase in four years to start the year. Further growth will be encouraged by the surge in jobs in May. Auto sales also will receive a boost from deeper discounts offered over the summer.

Another support to household spending was the strong growth in household wealth, up 10% in the first quarter from a year-earlier. While net homeowner equity has moderated over the past year, financial assets accelerated. About half of this increase reflected higher stock market prices. Still, households remain very liquid, with cash deposits and other short-term assets equal to 82% of disposable income (and equivalent to three-quarters of all mortgage and consumer debt).

Canada’s international investment position also improved substantially in the first quarter, with net foreign debt falling 8% to a record low share of GDP. The drop reflected increased purchases of foreign bonds and direct investment abroad.

By country data for 2005 show that firms continue to concentrate direct investment abroad in the United States (46%) and Europe (25.6%). Suggestions that investment is migrating to low-wage countries like Mexico, China and India are not borne out by the data, as these countries host only 0.9% of Canadian direct investment abroad. The trend in Mexico has fallen since 2000. The stock of investment in China was virtually unchanged last year at $1.0 billion, while India remained negligible at $0.2 billion. Australia – hardly a low wage country – is the largest destination in Asia at $8.2 billion.

Labour Markets

Jobs levelled off in June after their large advance in May. This left second-quarter employment up 0.8%, its largest gain since late 2003. Full-time jobs gave back almost half of their record increase in May, especially youths. The marked substitution of private sector jobs for self-employment continued throughout the first half of the year, notably in construction, trade and agriculture. With the labour force also unchanged, the unemployment rate remained at its record low of 6.1%.

Goods and services continued to diverge. Services increased by 30,000 jobs on top of a large advance in May. This bought their total growth in the first half of the year to almost 250,000 or 2.0%. Finance, hospitals and day care led these gains.

Meanwhile, goods fell another 35,000, after losing jobs the month before. Since December, they have shrunk by 31,000 or almost 1%. Construction led the drop in June, after stalling over the previous three months. This partly reflects the slowdown in home-building, which had been one of the fastest-growing sectors over the previous three years. The loss of manufacturing jobs slowed sharply during the second quarter.

Quebec was the only province to add to May’s job gains, up another 0.3% in June. Services were buoyed by health care and business services. The loss of manufacturing jobs intensified to 3.5% in the first half of the year or almost double Ontario’s loss. Ontario had led the drop in factory jobs since 2004, but recovered slightly in June. Together with increases in finance, health care and construction, this offset a sharp drop in trade.

Alberta gave back about one-quarter of its record employment gain in May. Finance and business services continued to shed jobs in the first half of the year. Jobs in BC were little changed for a third straight month, with losses concentrated in manufacturing. Still, a smaller labour force pushed down unemployment to a record low of 4.3%.

Leading indicators

The composite index grew by 0.3% in May after a 0.4% gain in April. The index has risen in a range from 0.3% to 0.5% for most of the last two years. The sources of growth narrowed significantly, as only 6 of the 10 components expanded, the fewest since March 2005. Consumer and business spending lifted the overall index.

Consumer demand for durable goods rose by 1.1%. While auto sales remained slow, consumers stepped up their purchases of a wide range of electronic goods. Furniture and appliance demand also remained brisk, reflecting near-record sales of existing homes. The housing index returned to more normal levels after surging during the mild winter.

The strong labour market remained a major stimulant to consumer spending, culminating in May’s record surge in full-time jobs. This increase was reflected in a 0.4% gain for business and personal services, with business services accounting for over three-quarters of growth.

The manufacturing sector continued to slow down gradually. New orders dipped 0.2%, their third straight decrease. The slump in demand was reflected in a drop in the ratio of shipments to inventories, as shipments also fell for the third straight month. The average workweek in manufacturing levelled off after declining steadily since January, but this may just reflect that hours worked already were near record low levels (the 37.7 hours worked in May’s unsmoothed index was the lowest ever outside of the depths touched during recessions in 1982 and 1991).

The three other components posted small gains. The financial indicators slowed during the month. The United States leading indicator posted a modest 0.2% gain, led by a pick-up in investment demand.

Output

Real GDP grew by 0.1% in April, the same as in March after a brisk start to the year. Most of the slowdown originated in the energy sector as mild temperatures persisted, while manufacturing continued to be lethargic. Demand for services remained brisk, notably consumer, financial and transportation services.

Energy output fell nearly 1%. Warm temperatures curbed demand for utilities and hampered drilling activity. Unlike the winter months, however, the mild weather did not boost construction. Home-building fell for a second straight month, while non-residential building posted its first drop in 17 months.

Manufacturing activity continued to edge down for a third straight month, leaving output virtually unchanged from a year-earlier. Resource-based industries led the drop, notably lumber, smelting and refining and petroleum. Lower construction demand also pulled down non-metallic minerals and other capital goods industries. Aerospace and petrochemicals remained the major exceptions to the slump in manufacturing so far this year, pushing their year-over-year increases to 12% and 16%, respectively.

Services stayed vibrant in April, the mirror image of the slump for goods. Consumer spending led the increase, notably retail sales and recreation services. Air transport continued to grow, up over 5% since December, as consumers travelling abroad shrugged off higher ticket prices due to the rising cost of fuel (in fact, since 1992, air fares have risen 112%, more than any other component of the CPI except tuition fees and home heating).

Financial services also continued to thrive despite lower housing sales. Trading on financial markets remained brisk, while demand for loans grew steadily. Financial activity is up 2.3% so far this year.

Elsewhere, the pick-up in import demand helped boost wholesale trade for a fifth straight month. Business services posted the smallest increase in commercial services.

Household demand

Retail sales continued to grow rapidly, up 1.1% in volume in April, matching their average increase in the previous six months of growth. The strength of non-automotive consumer spending is even more impressive, as auto sales continued to slow into May. As well, consumers shrugged off a sharp hike in gasoline prices in April.

Almost all sectors of non-auto demand improved in April. Partly, this reflected continued price cuts for a wide range of goods such as clothing, computers and electronics which have a high import content. The upswing in new home sales also gave another boost to furniture and appliances.

Housing starts in May levelled off at 217,000 units at annual rates, after a sharp drop in April when more normal temperatures reversed the weather-induced surge in construction during the winter. In the first five months of this year, starts are running 5% ahead of the same period in 2005. New home sales in May continued to improve, rising to their highest level in over a year. But the surge of building during the mild winter kept pace with demand, leaving the number of unsold homes little changed from the start of the year.

Existing home sales dipped in April. Much of the slowdown was concentrated in BC and Alberta: this may reflect a lack of supply more than weak demand. Demand for new homes in Calgary has sent the cost of new housing skyrocketing by 35% in the year to April, with Edmonton next at 19%. This was more than double their increases late in 2005.

Merchandise trade

Exports fell for the third time in four months, reversing most of their gains last year. As a result, their year-over-year growth slowed dramatically from 14% in December to just 2.4%. With imports rising, this lowered the trade surplus from near $7 billion late last year to a 15-month low of $4.1 billion in April.

The slowdown in exports since December has hit every major category. The largest drop was for energy, much of it due to the glut of natural gas following the mild winter in North America. Auto exports continued to fall rapidly in April, the result of continued weak sales in the US. Forestry products fell for a third straight month, partly as the post-hurricane building boom in the US faded.

The other components of exports have been little changed so far this year. Stronger wheat shipments supported food products. Industrial goods were buttressed by the global surge in demand for metals. Machinery and equipment slipped in April after a good start to the year.

While exports faltered, import demand strengthened for the second straight month after a slow start to the year. Most of April’s 1.2% gain reflected a surge in energy imports, as refineries in eastern Canada rebuilt stocks after very low imports in the first quarter. Lower prices helped boost the volume of consumer goods imports. The stall in auto sales was reflected in flat auto imports so far this year. Machinery and equipment fell 3% in April due to a sudden loss in altitude for aircraft shipments.

The price of exports fell steadily through the first four months of the year. By April, they were 0.3% below last April the first year-over-year decline since last July. Price increases for energy products slowed from nearly 50% late last year to just 6% in April, while the rising dollar pushed down the price of end product exports by over 3%. This was close to the rate of decline for all imports.

Prices

The consumer price index rose 0.2% between April and May, after a sharp 0.5% jump the month before. Gasoline prices fell slightly in May after leading the increase in April, but remain 19% ahead of last year. Overall, energy prices rose slightly because of a hike for electricity rates in Ontario.

Outside of energy, price trends were split between increases for shelter and declines for most other goods and services. Shelter was driven up by the soaring cost of new homes in Alberta and travel lodging across the country.

Prices fell for goods excluding energy. Persistently weak sales led auto firms to shave prices, after holding the line on discounts for most of the past year. Lower import prices helped drop the cost of a wide range of goods in the past year, notably clothing, electronics, recreation equipment, appliances, tools, and fruits and vegetables.

Commodity prices dipped in June, largely because metals retreated from their record highs set in May, when copper hit $4 (US) and nickel $10 (US) a pound. Energy prices remained high, with oil above $70 (US) a barrel as the hurricane season began with production in the Gulf still recovering from last season. Wheat also rose, partly as India resumed importing for the first time in a decade.

Prices for manufactured goods rose 0.3% between April and May. Sharply higher prices for metals offset the dampening effect of a record monthly increase in the exchange rate. The latter reduced prices for a majority of commodities, notably autos and lumber.

Financial markets

Both short- and long-term interest rates were little changed in June, while the Canadian dollar continued to oscillate around 90 cents (US). Despite the recent hike in rates, investors continued to move out of money market finds in May.

The surge in the stock market early this year led firms to step up new equity issues to over $2 billion in April and May. At the same time, bond issues fell. The stock market fell 1% in June after a drop of nearly 4% in May, erasing the gains over the previous two months. The retreat was broadly-based. Energy and metals posted the only gains, despite prices on commodity markets returned to more normal levels after a spike in the spring.

Foreign direct investment totalled $12 billion in the first quarter, mostly through takeovers. Acquisitions were concentrated in energy and metals, a trend that continued in the second quarter when high prices raised the attractiveness of firms in Canada.

Regional economies

Alberta has been the driving force behind the surge of retail sales so far in 2006. A 3.9% jump in April brought growth since December to 9.4%, compared with only a 3.8% increase in the rest of Canada. Strong employment and income growth underpinned these increases. Alberta’s exports and shipments levelled off this year, reflecting the retreat of energy prices from their record highs. Investment intentions remain strong, after non-residential building permits hit a record in March (boosted by a blizzard of projects in the public sector). Housing permits remained near a record high. Multiple units grew faster than singles, as builders scrambled to address the growing shortage of housing.

Ontario has been increasingly reliant on construction and retail sales for growth, as manufacturing stagnated. Shipments edged down in April, their third drop in the last four months. Steady losses in the auto industry were partly offset by gains in metals and capital goods. Some of the latter appeared destined for Ontario’s construction sector. Housing starts in May rose 10%, the only province to recoup all of April’s losses. And non-residential permits were running 4% ahead of last year’s pace, despite a sharp drop in January when higher fees were introduced. Retail sales continued to grow, up 1.2% in April, but remained less than other regions.

Conversely, Quebec posted buoyant retail sales but slow construction growth. Retail sales rose 1.6% in April, behind only the increase on the Prairies. But housing permits for single-family homes have trended down all year, hitting in April their lowest level since the post-9/11 boom began. Non-residential building fared slightly better, as a spate of institutional projects early in the year offset pronounced weakness in the industrial sector. Manufacturing shipments have levelled off so far this year after a solid 5% gain in 2005. More losses in clothing and paper were offset by gains for aluminum and petroleum (the latter surpassed Ontario so far this year, as refiners continue to close old, small operations in Ontario and ship gasoline from Quebec).

BC had a slow start to the second quarter. Housing starts in May fell to their lowest level since January 2005. Like Ontario, retail sales growth remained below the national average. Manufacturing shipments in April ceded some of the ground gained in the first quarter. Non-residential building remained strong, after permits neared a record high in March, and so far this year are 4% ahead of last year’s record-breaking pace.

International economies

In the United States, the housing market rebounded. New home sales in May strengthened for a third straight month, recouping most of their sharp losses over the winter. The increase in sales and fewer unsold homes gave a boost to starts, up 5% after three straight declines. Despite lower auto sales, retail sales rose 0.1% in May. Excluding autos and gasoline (where receipts are up 22% in the past year due to prices), annual sales growth was steady at near 8%. Strong demand for electronics offset a slowdown in building materials after their post-hurricane surge.

The current account deficit narrowed from $223.1 to $208.7 billion in the first quarter, its largest drop since the 2001 recession. The decrease was led by rising exports. However, import prices in April and May rose almost 4%, the largest 2-month increase since 1990 as oil prices rose sharply. Higher oil prices also were the major factor in pushing consumer price inflation to 4.1% in May. Prices of most other goods were little changed, while higher housing costs pushed services up 3.3%.

Industrial production slipped 0.1% in May after a strong 0.8% advance in April. Most of the turnaround originated in capital goods, where output dipped after a 2% gain the month before. The underlying trend remained strong, however, with output still 11% ahead of last year and orders for core capital goods strengthening. Total orders were depressed by a sharp drop in aircraft. While air transport in Canada has recovered completely from its post-9/11 slump, in the US the industry continues to shed jobs, which are nearly 20% fewer than 5 years ago.

Economic growth slowed in the euro-zone in April. Industrial production fell 0.6% as output contracted in every major sector. New orders were also down, marking their third contraction since the start of the year. External trade slipped into a deficit as the higher energy imports more than offset export gains in chemicals, machinery and vehicles. Consumer demand rebounded, while unemployment fell to 7.9% in May. The annual rate of inflation inched up to 2.5%, prompting a rise in interest rates.

German industrial production rebounded in April after severe weather and strikes hampered output the month before. Consumer spending picked up, to more than offset its losses in the previous two months. Exports remained robust, while inflation eased slightly to 2.1% in May.

Output retreated in France as industrial production fell in April, after recovering the month before. New orders posted their fourth straight decline due to weak export demand. Consumers again ventured out to spend, as confidence was boosted by continued declines in the number of jobless.

Industrial production in Britain contracted in April after a slight gain the month before. Upbeat consumer spending and rising energy prices boosted imports, while exports continued to lag due to the steady appreciation of the pound. As a result, the external trade deficit was once again the largest in the euro-zone. Inflation accelerated to a seven-month high of 2.2% in May.

Trade remained brisk in Japan in May as exports rose 19% year-over-year and imports gained 18%. The unemployment rate fell to an eight-year low in May of 4%, while consumer prices rose for the seventh consecutive month, boosted by higher oil costs.

Brazil’s economy rose 3.4% in the first quarter year-over-year, buoyed by strong business investment in oil and metals and rising construction demand. India expanded by 9.3% from a year earlier, fuelled by strong farm production and consumer spending. Higher oil imports depressed the currency and spurred inflation to 4.3% in May.

Note

* Based on data available on July 7; all data references are in current dollars unless otherwise stated.