Abstract
This 2013 Article IV Consultation highlights that the Canadian economy strengthened in 2013 after a subdued performance in 2012, but the underlying growth has remained modest. Despite the depreciating exchange rate, non-energy exports remained well below the levels reached after earlier recessions. The housing market has cooled, owing in part to macro-prudential measures adopted in the past. Economic growth is expected to accelerate to 2¼ percent in 2014, up from an estimated 1¾ percent in 2013. Canada’s export growth should benefit from the projected pick-up in U.S. growth in 2014, boosting business investment.
This note reports on information that has become available since the staff report (SM/14/19) was issued and does not alter the thrust of the staff appraisal.
Recent economic indicators suggest that economic activity is picking up somewhat. Canadian manufacturing sales increased for the third month in a row in November 2013, at a faster pace than market expectations, with motor vehicle sales reaching the highest level (in nominal terms) since November 2007. The Bank of Canada’s Winter Business Outlook Survey suggests that the export and investment outlook is gradually improving, although weak demand and domestic uncertainty continue to limit sales expectations and expansion plans. As a result, business investment is expected to focus on shorter-term projects and upgrading of existing capacity. For the labor market, the year ended on a weaker note, as unemployment rate increased to 7.2 percent in December, after holding steady at 6.9 percent in September–November. However, monthly labor statistics have been volatile, and job creation trended up on a quarterly basis in 2013:Q4. Staff continues to expect unemployment rate to average about 6.9 percent in 2014.
Activity in the Canadian housing sector continued to moderate, in line with staff projections. Home sales fell in December (-1.8 percent, m/m), the third consecutive monthly decline, and stood at close to 2012 levels on an annual basis. The number of newly listed homes fell 4.3 percent (m/m) in December, and year-end listings were somewhat below the 2012 figures. House prices rose 4.3 percent (y/y) in December, led by increases in Calgary and Greater Toronto area. Construction activity continued to moderate, with housing starts declining to around 188,000 units in 2013, down from 215,000 in 2012. The steady growth in the number of completed and unabsorbed units in 2013 (reaching 212,000 units, up from 190,000 units in 2012) suggest the excess supply of housing should put downward pressures on house prices in the coming years.
On January 22, as widely expected, the Bank of Canada left the overnight rate unchanged at 1 percent, emphasizing the downside risks to inflation. While lowering the projected path of inflation in 2014 (from 1½ percent forecasted in October to 1¼ percent), the Bank still expects total and core inflation measures to remain below the 2 percent target until 2015:Q4 (similar to staff’s projections). Noting the improved growth in 2013:H2, the Bank revised up its 2013 growth forecast for Canada (to 1.8 percent from 1.6 percent in October forecast) but stressed the lack of signs of rebalancing towards exports and investment. Backed by a stronger outlook for the U.S. recovery, the Bank revised up its projection of Canada’s growth in 2014 (to 2.5 percent from 2.3 percent), driven by a higher contribution from net exports. Markets appear to have interpreted the monetary policy statement as moderately more dovish, and the Canadian dollar and bond yields weakened in the wake of the release. Analysts continue to expect interest rates to remain on hold until 2015, with some expecting the tightening cycle to begin in as late as the second half of 2015.