Long "to do" list facing global policy makers to repair engines of growth

TORONTO, June 20, 2012 /CNW/ - Troubled global economies and tapped out domestic consumers will see the Canadian economy grow at 2.1 per cent this year and next, finds the latest economic forecast from CIBC World Markets Inc.

"The global economy hasn't fallen off a 2008-style cliff, but it's been too close to the precipice for investor comfort," says Avery Shenfeld, Chief Economist at CIBC. "There's a long "to do" list for policy makers that will have to be completed to repair the engines of growth. Some emerging markets are on the boundary of a hard landing, Europe is mired in recession, and the U.S. is moseying along on its half-speed recovery."

The "To Do" List for 2012-13

• Portugal 2, Ireland 2
• Greece 3 or managed exit
• Cyprus
• Spanish sovereign
• Other European bank equity infusions
• Austerity Lite
• Increased European Stability Mechanism
• ECB bond purchases or QE
• Chinese monetary and fiscal stimulus
• Strong yuan
• U.S. softening of fiscal cliff

Mr. Shenfeld says progress against the list has resulted in CIBC slightly lowering its already below-consensus call for 2012 world growth to 3.0 per cent, its slowest pace since the recession.

A continued slowing of global economic growth will cause challenges for Canadian exports. "While a host of indicators continue to signal impressive economic momentum in resource-rich provinces like Alberta and Saskatchewan, we expect a less voracious appetite for commodities in key emerging markets," says Benjamin Tal, Deputy Chief Economist at CIBC. "The associated pullback in commodity prices could, at the margin at least, mean less aggressive investment, job creation and ultimately GDP growth for Canada's most resource-leveraged regions."

The report notes that while in recent quarters, rising U.S. auto sales, energy price relief and a cheaper loonie have contributed to economic resilience in Ontario, the potential for a withdrawal of U.S. fiscal stimulus in 2013 could slow that growth, and further add to a deceleration in emerging market demand.

CIBC used the Bank of Canada's foreign activity index (which combines information on U.S. consumption, investment and GDP growth in 34 other countries) to help predict growth in Canadian exports. Based on CIBC's U.S. and global economic forecasts it expects growth in the BoC foreign activity index will soften as we head into 2013, leading to a slower trajectory for Canadian exports.

"That could dent job creation in Canada, as hiring has quickened recently on the bet that external demand will improve," says Mr. Tal. "Almost all of the job creation seen in the last six months came from the tradeable sector, namely manufacturing and natural resources that depend heavily on foreign demand." He adds that while a rebound in U.S. industrial production and vehicle demand has provided ample justification for the increase in factory hiring, a continued slowdown in emerging markets and risks of a sharp contraction in U.S. government spending could bring a halt to job growth.

At the same time as Canadian exports are facing new headwinds, Mr. Tal notes that consumer demand in Canada is starting to wane. "Low interest rates for the past few years have kept the economy alive while the world around it crumbled, and while that bought the Canadian economy time, flash forward a few years and the domestic economy has yet to find sources of growth that can survive if policy makers pull the plug on the low-rate IV-drip.

"Years of free-flowing credit in Canada have seen Canadians overshoot by a wide margin what could be considered "normal" consumption relative to population trends. So after gorging at the table of plenty for several years, Canadian consumer appetites may already be satiated."

As a result, low interest rates now have a diminishing positive impact on the Canadian economy in general, and households in particular. The effective interest rate on household debt has been hovering at a record low for over two years, and has been on a clear downward trend for more than four years. As is frequently the case, the more a tool is used the less effective it is. In the first half of the last decade a 100-basis points decline in the effective rate translated into a 2.1 per cent acceleration in the growth of household credit. The same reduction has more recently seen a deceleration of 4.1 per cent.

"The cooling trend in Canada's domestically-generated demand means that beyond the risk to exports from a U.S. slowdown and the on-again-off-again Eurozone crisis, the Bank of Canada has reasons to stand pat on rates," adds Mr. Tal. "Economic growth in both 2012 and 2013 should fall short of the Bank of Canada's expectations and it may have to wait for a U.S.-growth-induced pick-up in 2014 before it feels compelled to move from the sidelines."

CIBC Global Real GDP Growth Rate Forecasts

China

CIBC has marginally lowered its forecast to 7.8 per cent this year but notes that government policy should accelerate growth to 8.5 per cent in 2013. It notes that after excessively tightening to contain a housing bubble and inflation, Beijing is now reversing course, with below-target inflation giving policy markets a green light.

India

Stubborn inflation may hold back India's central bank and, as a result, CIBC has slashed its growth forecast for the formerly shining economy to 5.5 per cent.

Europe

The blueprint for a rebuild of Europe's economic motors isn't hard to outline: a kinder, gentler path of fiscal restraint in the periphery, with much more support for those countries refinancing needs from stability funds and central bank purchases, preferably unsterilized. Each time they've approached a crisis point, Europe has come up with an 11th hour deal. Thus, best bets are that they will be dragged kicking and screaming into some of the remaining "to do list" measures, enough to generate modest but still sub-one per cent growth in 2013.

U.S.

Political pressure for government restraint will drag on a U.S. economy that's otherwise nicely coming together, with growth running just under two per cent.

The complete CIBC World Markets report is available at:
http://research.cibcwm.com/economic_public/download/fjun12.pdf.

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