The Bank of Canada building in Ottawa.CHRIS WATTIE/Reuters
Statistics Canada’s first-quarter gross domestic product report was the latest reminder of what a truly weird economic time we find ourselves in.
The economy is growing faster than it has a right to – and that’s bad news.
With inflation still running too hot for the Bank of Canada’s comfort, the quarter’s surprisingly brisk 3.1-per-cent annualized growth rate is too much of a good thing. It implies more inflationary pressure in the quarter, not less. It suggests that the central bank’s battle against inflation – fought with rising interest rates – isn’t done yet.
While those first-quarter figures are too good for comfort, they’re also too good to last. The quarter may well be the last hurrah. We may avert the recession that everyone feared a few months ago, but there’s still every reason to think that a much cooler economy is on the way, if it isn’t here already.
Whether the Bank of Canada is prepared to wait for this slowdown to transpire is another question.
The biggest eyebrow-raiser in Wednesday’s GDP report is the stamina of the Canadian consumer, in the face of the past year’s interest-rate increases. Household consumption was up nearly 6 per cent annualized in the quarter, a strong rebound after posting little growth in the two prior quarters. The figures prompted some economists to suggest that the Bank of Canada would have to raise interest rates further to tame the consumer demand that is feeding inflation pressures.
But the first-quarter GDP data are a look into the economy’s rear-view mirror. Even Statscan’s figures for March, the final month of the quarter, suggest a waning of consumer appetites: Activity in retail, restaurants and bars declined for the second straight month. Statscan’s preliminary estimate for April pointed to further slowing in the retail sector.
The Canadian Chamber of Commerce’s new Local Spending Tracker, which captures monthly card and electronic payment transactions, found that nationally, year-over-year real (i.e. inflation-adjusted) spending per capita declined in March and April. On the same basis, spending was negative in seven of the country’s 10 largest urban centres.
Business investment has been in decline for three consecutive quarters, and the mood shows no signs of improvement. The Conference Board of Canada’s quarterly business confidence index posted its seventh consecutive decline in the latest survey, conducted in late April and early May. The gauge of business sentiment has slumped to its lowest reading since the second quarter of 2020 – the darkest days of the COVID-19 pandemic. Growing numbers of businesses reported that they are operating below capacity, and their inflation expectations are easing.
The Conference Board’s monthly consumer confidence survey has been more upbeat, but the think tank’s own analysts don’t believe that it can defy gravity much longer. In their latest report, they argue that high household debt loads, high interest rates and declines in home values are destined to sap the energy out of consumers, especially as more mortgages come due for renewal at substantially higher rates. The more recent retail and spending numbers may be evidence that those expected cracks are emerging.
The implication is that the momentum that we saw in the first quarter can’t and won’t last. The first quarter may have delayed the slowdown, but it hasn’t averted it.
It’s possible that the central bank may decide that while the GDP report did, indeed, exceed the bank’s April estimate, it was broadly consistent with what the bank has forecast: a solid first quarter, but a substantial slowdown beginning in the second quarter, and continuing for the rest of the year. The numbers don’t change that narrative much, if at all.
The bank has also been trying to get a handle on a key variable affecting growth: the country’s rapid population growth, fuelled by immigration. The surge in temporary and permanent residents – more than one million in 2022 – has certainly fed both labour capacity and consumer demand. Those newcomers not only add to economic activity – i.e. GDP growth – but they also raise the ceiling for how much growth we can sustain without adding inflationary fuel. The bank may take that into account when considering the implications of the resilient consumer demand that fed into first-quarter GDP.
But Bank of Canada Governor Tiff Macklem has been consistent in warning that, with inflation still well above the bank’s 2-per-cent target, he and his colleagues are necessarily more bothered by upside risks to inflation than downside risks. That message – which hasn’t wavered even as the inflation rate has moderated this year – implies that the bank isn’t inclined to overlook persistently strong economic growth, nor take it on faith that the air will soon come out of the consumer-spending balloon.
The question, then, is whether the data contained in the GDP report are sufficiently out of line with the bank’s outlook to raise its alarms about inflation. If it has any doubts that interest rates are high enough to douse consumer fires, the bank may decide that it is better to nudge rates a bit higher and extinguish whatever troublesome embers remain.
The bank is in better-safe-than-sorry mode. So, the question isn’t whether the GDP numbers are strong. It’s whether they are safe.