Consumer spending won't drive U.S. or Canadian economies

    TORONTO, May 25 /CNW/ - CIBC (CM: TSX; NYSE) - The economic landscape
over the next decade will see a return to inflation in the U.S., a Canadian
dollar above par, a solid run for stocks and resource prices, and the
emergence of Asian consumer spending, finds a new economic outlook report from
CIBC World Markets Inc.
    The report dubs the next decade the teenage years, and like teenagers, it
expects financial markets and the economy could be moody and unpredictable
early on, but ultimately, grow and mature. It notes that while equities have
plenty of room for a longer term rally over the next ten years, investors will
have to steer their portfolios to align with a very different mix of growth,
both in North America and globally.
    "Excess leveraging in this decade needn't mean that deleveraging dooms us
to lower potential overall GDP growth in the teen years, only that the
composition of both U.S. and global growth has to change," says Avery
Shenfeld, Chief Economist and co-author of the report. "The U.S., and perhaps
to a lesser extent, Canada, will become a bit more China-like in the teen
years. We'll see more of a contribution from exports and related capital
spending, and less from housing or consumption."
    Mr. Shenfeld expects that greater consumer spending from regions that had
been running outsized savings rates over the past decade, particularly China
and the oil-exporting economies, will pick up the economic slack from lower
U.S. spending. In fact, he believes that a fall in the savings rate in the
developing world could add far more to global consumption spending than will
be lost in the adjustment to a higher savings rate in the U.S., Canada and the
rest of the OECD. The key driver in this will be a drop in the value of the
overinflated U.S. greenback.
    The report notes that the quantitative easing by the U.S. Federal Reserve
Board will continue to be more aggressive than in other jurisdictions and if
the Fed decides to ensure the recovery is well in hand before constraining
money growth, the weight of the extra dollars will depreciate the greenback
both at home, through inflation, and abroad, through currency devaluation.
    Mr. Shenfeld expects the U.S. dollar to tumble by 20 per cent on a
trade-weighted basis, a move that will see the Canadian dollar averaging
stronger than parity in the coming decade. More importantly, he sees a weaker
U.S. dollar as the key to unlocking wallets overseas.
    "Stronger currencies in East Asia and, if there is an unpegging as we
expect, in the Persian Gulf oil economies, will be one step toward improving
the real purchasing power of consumers in these regions," he adds. "Moreover,
the longer countries like China and India see improving economic conditions,
the more households will be confident that their newfound wealth is not
ephemeral, allowing them to reduce precautionary savings."
    While U.S. consumers will be cutting back on spending and saving more to
pay down debt, Mr. Shenfeld does not expect tax hikes to be the full solution
to the growing weight of government debt. He expects inflation may be part of
the answer to both the public and private debt excesses of our southern
neighbours.
    "Letting inflation run at five per cent for a few years in the early part
of the decade would go a long way to digging the U.S. out of its debt
mountain. The debt/GDP ratio has nominal GDP in the denominator-so raising
inflation lowers the debt burden. And higher inflation would help stabilize or
even boost nominal house prices, key to allowing a return to positive home
equity for those with mortgages that now threaten to exceed the house price.
    "Since Canada will not face nearly America's debt burden, nor its
underwater mortgages, letting inflation run above the central bank's two per
cent target will be much less tempting. A strong Canadian dollar will also
dampen import price inflation. Expect an inflation gap to see Treasury yields
well above those on Canadian bonds in the first half of the next decade as a
result."
    U.S. dollar devaluation and higher U.S. inflation will help boost
commodity prices and Canada's corporate bottom line, particularly given that
economic development in the Far East tends to be more resource intensive than
the more services-oriented economies of North America.
    For the U.S., a weaker dollar will be key to promoting both net exports
and capital spending at home, by making "Made in America" less of a cost
disadvantage. The weakening of the U.S. dollar prior to its rebound last year
had saw net exports account for 20 per cent of 2007 real GDP growth.
    For the Canadian economy, these shifts will mean a leaner decade for
segments of the economy leveraged to American consumer spending (like
automotive equipment, newsprint, lumber for U.S. housing). Reduced Canadian
leveraging will also see housing starts average a tame 170,000 in the decade
of the teens, after having averaged near 200,000 for the current decade to
date. Instead, faster growth will be driven in sectors (technology, materials)
linked to either North American capital spending or Asian consumption.
Financial services will earn their keep by helping Canadians manage a newly
growing pool of savings.
    While the Canadian dollar will climb as the U.S. dollar weakens and hurt
our manufacturing competitiveness, rising resource prices will reignite
capital-intensive development of the oil sands, natural gas projects, and
metal mines. That will allow private investment spending to increase its share
of the economy as governments pull back on public infrastructure. The firmer
Canadian dollar will also give Canadian households added import spending
power.
    "Add it up, and the teen years will, like teenagers, have a lot of
drama," adds Mr. Shenfeld. "And, as unpredictable as teens can be, likely a
few surprises relative to these very long-term calls."

    The complete CIBC World Markets report is available at:
    http://research.cibcwm.com/economic_public/download/occrept67.pdf.

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