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Canada Economics Weekly

Economy losing momentum

While the apparent contraction in GDP in May appears to have been partly due to temporary factors, it also reflects the impact of the surge in interest rates on housing. With the business surveys for June also showing a loss of broader momentum, the economy may be slowing even sooner than we anticipated.

We are sending the Weekly early this week as our Toronto office is closed for the Canada Day holiday on Friday. Happy Canada Day!

30 June 2022

Canada Data Response

GDP by Industry (Apr.)

The preliminary estimate suggests that the healthy 0.3% m/m rise in GDP in April was followed by a shock 0.2% contraction in May but, as this appears to have been partly due to temporary factors, it probably won’t stop the Bank of Canada from enacting a larger 75 bp interest rate hike next month.

30 June 2022

Canada Chart Book

Tight labour market pushing up wages

The tight labour market is putting upward pressure on wages, with the Labour Force Survey showing a strong 1.0% m/m rise in average hourly earnings in May. While the annual rate of wage growth, at 3.9% y/y, remained lower than before the pandemic, base effects mean it is likely to accelerate to closer to 6% over the second half of 2022. All this adds to the pressure for the Bank of Canada to rapidly tighten policy, particularly as the current weak rate of productivity growth suggests that there is minimal scope for businesses to absorb higher wage costs. We expect the Bank to raise its policy rate by 75 bp in July and follow that with a further 50 bp hike in September and a 25 bp hike in October, to take the policy rate to 3.0%. By then, we think the weakness in the housing market and a sharp slowdown in employment growth will be enough to cause the Bank to pause its tightening cycle, and ultimately remain on the side lines as GDP growth slows below its long-run potential in 2023.

29 June 2022

Key Forecasts

Main Economic & Market Forecasts

%q/q ann. (%y/y) unless stated

Q1 2022

Q2 2022

Q3 2022

Q4 2022

Q1 2023

Q2 2023

2022

2023

2024

GDP

3.1

4.5

3.2

1.4

1.0

1.0

3.8

1.7

1.7

CPI Inflation

5.8

7.6

8.0

7.3

6.0

3.1

7.2

3.0

1.7

Unemployment Rate (%)

5.8

5.1

5.0

5.0

5.2

5.2

5.2

5.2

5.4

Overnight Rate, End Period (%)

0.50

1.50

2.75

3.00

3.00

3.00

3.00

3.00

2.50

10 Yr GoC., End Period (%)

2.43

3.30

3.40

3.50

3.40

3.30

3.50

3.00

2.50

CADUSD, End Period

0.80

0.77

0.76

0.74

0.73

0.72

0.74

0.71

0.71

Sources: Refinitiv, Capital Economics


Economy losing momentum

Canada Economics Weekly

1 July 2022

Our view

Very stretched house prices and the elevated level of residential investment make Canada especially vulnerable to the most aggressive global policy tightening cycle in decades. Even based on our view that the Bank will pause its tightening cycle sooner than markets are pricing in, once the policy rate reaches 3.0%, we expect GDP growth to slow sharply below potential in 2023 and house prices to fall by 20%. With the Bank recently suggesting that it could be even more hawkish than that – despite the rapidly weakening housing market – there is a real risk of recession.

Latest Outlook

Canada Economic Outlook

Tighter policy to drive GDP growth below potential

Economic activity should expand at a strong pace this year but, with the Bank of Canada set to tighten policy rapidly, we expect the quarterly pace of GDP growth to slow below potential in 2023, as residential investment falls from its elevated level. Slower GDP growth will at least help to pull consumer price inflation back toward 2% by late 2023 and, as residential investment stabilises, we expect GDP growth to pick back up to its potential in 2024.

21 April 2022