Commodity bust will hit economy hard: Banks

Eric Beauchesne, Canwest News Service Published: Thursday, December 04, 2008

OTTAWA - The shift from commodity boom to bust will shrink the Canadian economy, incomes and tax revenues, resulting in recession and government deficits, TD Bank warned in a report Thursday issued amid a flood of disappointing news showing soaring consumer bankruptcies, plunging business activity and falling building construction intentions.

The report came as the European Central Bank - as well as central banks of Britain, New Zealand and Sweden - slashed interest rates to stimulate their struggling economies, and as expectations grew that the Bank of Canada and the U.S. Federal Reserve will also cut rates further this month.

However, any chance of an early federal economic stimulus package for Canada was dashed as the minority Conservative government was able to have Parliament shut down until late January.

The TD Bank report said the end of the commodity boom will result in the first-ever contraction in nominal economic output in Canada and a recession from which the economy will not see much improvement until 2010.

Still, in a separate report, Scotiabank says that as bad as it gets here, it won’t be as bad as in the United States.

The TD Bank report said the end of the commodity boom will result in the first-ever contraction in nominal economic output in Canada, a drop in real incomes, a dramatic plunge in government revenues, the risk of deficits in the commodity rich provinces and a recession from which the economy will not see much improvement until 2010.

"Booming commodity prices have been a key support to income growth in Canada over the past several years," TD Bank says in the report, which looks at what to expect from the steep plunge in commodity prices highlighted by the drop in oil prices from a peak of $147 US a barrel only a few months ago to what Thursday morning was less than $47 US.

"Higher prices for energy, agricultural products, metals and minerals increased income across the country and were an important driver of domestic demand," it noted,

"The fall in commodity prices as a result of the global economic downturn will result in a striking pull back in export prices over the next several quarters," it said, noting that its index of prices for commodities that Canada exports has have fallen 46 per cent from their peak in June.

And it projects that export prices will fall further in the first quarter of next year, and at an annual pace of up to 20 per cent.

"Falling prices in addition to declining real activity will lead nominal GDP in Canada to contract for the first time on record," it said, projecting a contraction of three per cent in 2009.

A drop in nominal GDP, which is the value of all goods and services produced in Canada without subtracting for any increase that’s due to inflation would, except in a case of deflation, be more severe than a drop in real GDP which is already downwardly adjusted to take into account inflation.

The weakest nominal GDP has ever been was in 1990, as the economy was going into the last recession, but even then it increased by 0.8 per cent.

A contraction in nominal GDP, according the analysis, would result in a drop in real or after-inflation incomes, also for the first time since the 1990-91 recession, resulting in a slowdown in spending by consumers and businesses.

That, in turn, would leave Canada in a recession, which it says has already started, and from which there would be little recovery until 2010.

Meanwhile, the federal Superintendent of Bankruptcy reported that consumer bankruptcies in Canada jumped 7.5 per cent in October to 8,972, a 22.8 per cent increase from a year earlier, while Statistics Canada reported that the value of building permits issued that month dropped 15.7 per cent, with declines in both residential and non-residential building plans and in all provinces other than Quebec and Newfoundland and Labrador.

Further, the Ivey purchasing managers index - a measures of overall business activity - slumped more than expected last month and to its lowest level since it was created seven years ago, with all components - employment, inventories and deliveries - signalling what analysts said is a sharp downturn in overall economic activity.

The Ivey index plunged in November to 40.2 from 52.2 in October, with a level below 50 suggesting that a business contraction is underway.

"Overall, the report appears to be pointing to some profound weakness in the Canadian economy in the fourth quarter, following the modest GDP growth in the third quarter," said TD Securities analyst Millan Mulraine, noting that all components of the index, including employment, were down.

The monthly report comes in the wake of projections that the Canadian economy slipped into recession in the current quarter of the year, which began in October.

However, Scotiabank said that the relative health of Canadian consumers going into the downturn suggests that consumer spending and in turn retail sales will continue to hold up better here than in the U.S.

"Retail sales in the United States are being hammered by the intensifying economic downturn which has undermined household wealth," it said, noting that sales there have declined for four consecutive months to 3.5 per cent below year earlier levels and are expected to fall further.

Scotiabank is projecting that the jobless rate in Canada will rise to eight per cent by the end of next year from 6.2 per cent now and that will have a dampening impact on consumer spending.

"Canadian consumers have so far proven far more resilient," it said, noting that retail sales growth has slowed but are still up more than five per cent and that early holiday shopping reports are reasonably good.

"Looking to the New Year, however, Canadian households too are expected to become much more cautious spenders," it said, projecting that the jobless rate will surge next year to eight per cent from the current 6.2 per cent.

"Domestic growth, employment and income prospects are being pulled lower by reduced manufacturing exports to the United States and the large reversal in commodity prices that has undercut resource-related capital expenditures," it said.

"We nonetheless predict a better overall retail climate in Canada than in the United States in 2009," it said, pointing out that Canadian households are less leveraged than their U.S. counterparts, and thus better able to weather adverse economic developments.

Also, Canada’s housing market is cooling, but nothing like in the U.S. where the plunge in home prices has resulted in a significant erosion of wealth, and Canadian consumers are not facing the same credit crunch as American consumers.