Bank of Canada left its overnight rate unchanged at 0.50% in December

Week in review

Canada – In October, the merchandise trade deficit narrowed to C$1.1 billion (its lowest level since January) after widening to a revised record high of C$4.4 billion the prior month. In nominal terms, exports rose 0.5% while imports sank 6.3% after registering an outsized increase the previous month. The energy trade surplus grew to C$4.6 billion (its highest level since June 2015) as exporters benefited from both higher prices and higher volumes. The non-energy trade deficit improved to C$5.7 billion, a three-month best. In real terms, exports fell 0.9% while imports tumbled 7.4%, more than reversing the prior month’s surge. The weakness in two-way trade was disappointing. The slump in imports was attributable primarily to sharply lower imports of industrial machinery (these had surged the prior months thanks to a module destined for the Hebron offshore oil project in Newfoundland and Labrador),and sharp drops in energy products, and metal ores and non-metallic minerals. Exports were up, helped by higher prices, while overall volumes were down – gains for energy were more than offset by declines for non-energy products. The latter are now 9% below their peak of nine and a half years ago (chart). As a result, goods exports are on track to recording a drop of about 7% annualized in real terms in Q4 while imports are headed for an even steeper fall of 18%. In other words, trade may be contributing to GDP growth in the quarter, but not for the right reason.

In November, housing starts fell 4.3% to 184K, far short of the 191K expected by consensus. The decline was due to a 5% drop in urban starts, which dwarfed a 2.8% increase in rural starts. The decrease in the urban segment was entirely due to a 7.7% contraction in multi-unit starts, given that single-family starts were roughly flat. On a regional basis, lower urban starts in Ontario (-31.9%), Atlantic Canada (-10.1%) and Quebec (-4.2%) more than offset higher urban starts in British Columbia (+72.7%) and the Prairies (+1.6%). We expect starts in 2017 to fall to about 180K (from 196K in 2016) mainly on account of higher mortgage rates, lower affordability and recently adopted measures that make it harder, especially for first-time home buyers, to qualify for an insured mortgage loan. Meanwhile, starts in Q4 are set to pull back from their Q3 level, although the impact of this on GDP is unclear given the higher relative proportion of single-family starts.

Separately, building permits jumped 8.7% in dollar terms in October. The value of non-residential permits rose 10.7% on impetus from commercial applications, while the value of residential permits was up 7.7%. In real terms, residential permits rose 7.9% on an 11.8% increase in the single-family segment and a 5.9% increase in the multi-unit category. Though the advance in residential building permits suggests that starts could bounce back in the coming months (particularly in Ontario), we are not particularly upbeat about longer term prospects for residential construction. Mortgage rules implemented by the federal government this year will eventually take some steam out of demand, and supply should respond accordingly.

As was widely expected, the Bank of Canada left its overnight rate unchanged at 0.50% in December. On a dovish tone, the Bank noted that business investment and non-energy goods exports continued to disappoint and that a significant amount of economic slack remained in Canada, a state of affairs in sharp contrast with the situation in the United States where the economy was operating at near full capacity. This allusion was meant to remind people that the BoC did not need to move in lockstep with the Fed. Moreover, the BoC chose to exclude from its press release an assessment of the balance of risk related to the inflation outlook. It thus signaled that there was more uncertainty than usual surrounding the economic outlook at a time when it was unclear how things would evolve south of the border. Fiscal expansion could be coming to the United States at a time when the economy is already operating at near full capacity. This rendered the inflation outlook uncertain. In this context, the Bank was in fact leaving its options open after reporting in October that it had actively discussed the possibility of adding more monetary stimulus. In short, the Bank has decided to remain in wait-and-see mode. However, it is doubtful that the situation in the United States will be much clearer by January 18 when the BoC is slated to present its economic update.

United States – The trade deficit widened to US$42.6 billion in October from a revised US$36.2 billion the prior month. The deterioration was attributable to a combination of lower exports (-1.8%) and higher imports (+1.3%). In real terms, exports fell 2.9% while imports rose 1.4%. The trade figures were roughly in line with consensus expectations. Trade was a strong contributor to real economic growth in Q3 as exports registered double-digit annualized growth for the first time since 2013. However, such a strong performance could be followed by a pullback in Q4, as merchandise exports were down an annualized 7% after one month of data. With trade being a drag on growth so far in the quarter, the data support our view that the U.S. economy is set to decelerate closer to 2.0% annualized in Q4.

Factory orders surged 2.7% in October. Durable goods orders jumped 4.6% thanks in large part to the transportation component (+12.0%). Excluding transportation, factory orders rose 0.8%. Consumer durables (+0.2%) and non-durables (+1.3%) were both up in the month. It is worth noting that orders ex-transportation rose in 7 of the last 8 months. This stands in stark contrast with the 8 monthly declines in the prior year. It remains to be seen how the manufacturing sector will deal with the renewed strength of the USD in 2017.

Still in October, job openings fell 97K from the previous month to 5.53 million. Layoffs remained essentially unchanged at 1.5 million while quits decreased 66K to 2.99 million. The quit rate held steady at 2.1% for a fifth consecutive month.

Consumer credit rose US$16 billion in October to US$3,727.3 billion. Revolving and non-revolving credit grew by US$2.3 billion and US$13.7 billion, respectively.

The ISM Non-Manufacturing Index climbed 2.4 points to 57.2 in November, its highest reading since October 2015 (58.3). Employment rose 5.1 points to 58.2. The price index slid to 56.3 from 56.6 the previous month. All industries with the exception of health care reported increased activity. The business activity index stood at 61.7, up almost 10 points from the year-low mark of 51.8 reached in August.

World – In November, the Caixin China Services PMI rose to 53.1 from 52.4 the previous month. The composite index was unchanged at 52.9. The trade surplus shrank to US$44.6 billion from a revised US$48.7 billion in October. Exports were stronger than expected, progressing 0.1% y/y instead of retreating a projected 5.0%. Imports, too, were stronger than anticipated, growing 6.7% y/y after declining 1.4% the month before. In November, the consumer price index grew 2.3% y/y, compared to 2.1% in the previous month. The producer price index jumped 3.3% y/y, exceeding expectations (2.3%).

In the Eurozone, the ECB left its main policy rates unchanged. It also announced that it was continuing “its purchases under the asset purchase programme (APP) at the current monthly pace of €80 billion until the end of March 2017. From April 2017, the net asset purchases are intended to continue at a monthly pace of €60 billion until the end of December 2017, or beyond, if necessary, and in any case until the Governing Council sees a sustained adjustment in the path of inflation consistent with its inflation aim.”

To the extent that tapering means a gradual reduction of the asset purchase programme towards zero, ECB President Mario Draghi argued that the decision to reduce the rate of purchases to €60 billion starting in April 2017 was not a step in that direction. In order to ensure the smooth implementation of its programme, the ECB has decided that, if necessary, it would permit the purchase of bonds yielding less than minus 40 bps. The ECB also extended the maturity range of the bonds it could purchase to include those maturing in one year (previously, the lower limit was two years). The Eurosystem staff projections for GDP growth were left broadly unchanged at 1.7% for 2016 and 2017 and 1.6% for the following two years. Inflation was projected at 1.3% for 2017, 1.5% for 2018, and 1.7% for 2019.

 

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