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By HaleStewart March 18, 2018 7:06 am
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International Economic Week in Review: Both Canada and the EU Continue Growing

 

            On March 8, Deputy Bank of Canada governor Timothy Lane gave a speech titled, “Canada’s Economic Expansion: A Progress Report.”  To provide the required background, Canada had a mild recession a few years ago, caused by OPEC’s opening the production spigot which drove down oil prices.  Most of Canada was moderately touched; the oil sands area, in contrast, was hit hard.  The economy has rebounded; GDP grew at a 2.9% annual rate in the fourth quarter.         

            Lane noticed the solid all-around growth in the economy by referencing the following chart:

Final domestic demand (consumer spending, government spending, and business investment) contributed to the bulk of growth in the last four quarters. 

Lance did identify three risks to the outlook, beginning with the potential for weaker consumer spending.  While the unemployment rate has declined from 6.6% in 1Q17 to its current level of 5.8%, Lane argued that a recent tightening of mortgage underwriting standards would start to impact spending.  He next noted that Canadian consumers, who have a high level of household debt, will soon face higher interest rates, crowding out spending on other items.  Canadian household debt is high when measured as either a percentage of GDP or disposable income:

But, retail sales are still increasing at strong year-over-year levels (the most recent reading was 5.8%).  He also observed that business investment, which was very strong in the latest GDP report, might decline for two reasons.  First, the cut in the US corporate tax rate will make the US more attractive for investment.  Second, there is a large amount of uncertainty about the future of NAFTA.  If the treaty collapsed, Canadian exports would suffer; the U.S. receives 76% of Canada’s exports. 

            Finally, Lance argued that his researchers have not found any meaningful evidence of a fundamental change in the underlying nature of inflation.  This stands in stark contrast to US research, which has identified three potential causes: globalization (increasing competition lowers process), technology (consumers are now able to obtain real-time price information allowing them to buy items at the lowest price), and an aging global population that naturally spends less.  

 Despite his concerns, Lane’s overall tone was upbeat. 

            Mario Draghi spoke on March 14.  He described the EU economy in bullish terms.  Regarding consumer spending, he noted:

For consumption, one useful indicator is the gap between essential purchases, such as food and rent, and non-essential ones, such as electrical goods and holidays. Non-essential purchases – which make up around 50% of household spending in the euro area – tend to be postponed during recessions and then to catch up as the business cycle advances.[2] Such purchases are currently only 2% above their pre-crisis level, compared with 9% for essential ones. This implies that discretionary household spending still has scope to support the expansion.

The declining unemployment rate will also support increased spending.

As for investment, Draghi noted:

Business investment is also gathering steam as uncertainty in the euro area recedes. It now stands 7% above its pre-crisis level and surveys point to continued strong investment demand: capacity utilisation in the capital goods-producing sector is close to all-time highs for the euro area and for the four largest economies. Moreover, housing investment is still 17% below its pre-crisis level and is only now starting to pick up, which will likely add an extra impulse to the recovery dynamic.

The following two graphs provide additional color for Draghi’s comments:

Industrial production (top chart) started to increase at stronger rates about nine months ago (which was about 9-12 months after the Markit sentiment indicators started to rise).  The bottom chart shows that capacity utilization has also been increasing at strong rates.  At some point, high utilization forces companies to invest in new equipment; Draghi is arguing that time is approaching.  In earlier speeches, Draghi has noted that business lending has also been picking up steam; according to ECB data, they rose 1.8% in November 2017, which was the highest level of the year.  All of this adds up to a business sector that is poised for further growth.

            In other news, EU industrial production was down 1% M/M, but up 2.7% Y/Y.  The drop comes after three months of increases.  The overall trend still remains positive.  Finally, overall employment in the EU area increased .3 in the 4Q17, continuing the trend of positive job news for the region.

              Both Canada and the EU are now on firmer economic footing.  Both are in their second year of expansion which is being supported by a broad range of underlying economic fundamentals.

In 2009, F. Hale Stewart, JD. LL.M. graduated magna cum laude from Thomas Jefferson School of Law’s LLM Program.  He is the author of three books: U.S. Captive Insurance LawCaptive Insurance in Plain English and The Lifetime Income Security Solution.  He also provides commentary to the Tax Analysts News Service, as well as economic analysis to TLRAnalytics and the Bonddad Blog.  He is also an investment adviser with Thompson Creek Wealth Advisors. 

 

 

  

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