Canadian Quarterly Economic Forecast

Global

• Global GDP growth is expected to register 3.3% in 2022, 2.3% in 2023 and 2.9% in 2024, broadly as expected in our September forecast.  Although growth momentum continues to fade in advanced economies as central banks tighten financial conditions, there were upside surprises in the third quarter, particularly in Europe. 
• Europe is heading into the winter months in a much better position than expected a few months ago. It has built ample natural gas stocks and significantly reduced consumption. These actions now offer thicker insulation should the remaining winter months prove colder than expected. However, that insulation can only take them so far. The outlook remains fraught as inflation erodes disposable incomes, industrial activity declines, and the European Central Bank raises interest rates to fight inflation.
• Chinese authorities also provided some surprise news with the easing of its zero-COVID strategy. This will lighten the downdraft on the global outlook. If China’s health and infection experience follows the pattern of countries that have already gone before it, the first quarter is likely to test China’s political resolve and medical system. However, once that intensity of infections resolves, the easing in restrictions should open the door for a sustainable increase in consumer mobility, production and investment, rather than the fits-and-starts pattern that has come to define the past three years. Policymakers also recently moved to support the troubled housing market, and this too should help to restore consumer confidence. On the flip side, it’s important to bear in mind that an earlier and more robust revival also risks fueling another burst of global inflation if Chinese demand pressures commodity supply.

United States 

• Real GDP growth has been revised higher for 2022 from 1.6% to 1.9%. For an economy that needs to slow below its potential pace, a third quarter print of 2.9% failed to provide comfort that the U.S. is on that trajectory. And even though we are forecasting a sub-trend gain in Q4, this masks the details that reveal an acceleration in domestic demand to its fastest pace of the year. The consumer spending and business investment profiles are expected to end the year absent any signal of an economy on the precipice of downfall. That hand off has improved the annual growth prospects for 2023 slightly to 0.9%. 
• The weight of high interest rates and inflation is evident in the run-down of household savings, but there are several layers of cushion currently in place that seems to be preventing an abrupt or jarring adjustment. These layers all reside on the household side. 
• Despite a sharp erosion in the savings rate, excess savings remain on the balance sheets of many households. This too should steadily erode, but in the meantime, it’s mitigating a sudden recalibration of spending patterns. Second, American households are more desensitized in this cycle to higher interest rates due to the massive deleveraging cycle following the Global Financial Crisis. This has left debt service costs as a share of disposable income much lower, even amidst one of the fastest rate hike cycles in history. 
• And lastly, the labor market (and wages) is shoring up income nationwide. Job growth has moderated over the course of the year but remains remarkedly stable in the 260k-280k range. That’s more than two times the number of jobs that would be consistent with U.S. demographics on a sustainable basis.  Job openings have also fallen from their early-2022 highs but are also too historically elevated. Meanwhile, labor supply has continued to disappoint, with no improvement in the participation rate this year.  
• This mitigates the risk of a sudden drop off in job demand in the coming quarter but won’t likely prevent it all together as businesses continue to be pressured. We anticipate that by mid-2023, employers will start to thin out their workforces as economic growth slips well below trend. The unemployment rate is expected to increase by 1.5 percentage points (pp) and reach a peak of 5.1% by mid-2024. This remains unchanged from our forecast in September. The rise in the unemployment rate is consistent with a job loss tally of 1.35 million.    
• Never has the U.S. economy experienced a 1.5 pp increase in the unemployment rate without it being characterized as a recession. This gets to the point that focusing on the word “recession” doesn’t address its wide interpretation for depth and duration. 
• This magnitude of shift in the unemployment rate and job losses would be shallow by historical standards, reflecting a bifurcated job market. Several sectors are still a long way from recovering to pre-crisis levels – like leisure & hospitality – while others display historically high vacancy rates – like manufacturing. Both are examples of sectors that would normally lead job losses during a downturn but are unlikely to do so this time around. In contrast, sectors like information and professional/technical are at risk of leading the job losses, where hiring activity was exuberant throughout the pandemic. The bottom line is that all boats may not be rowing in the same direction in this cycle given unique past-pandemic legacies.  
• On the inflation front, the outlook has been revised higher due to an upward revision to our oil price forecast and more persistence in the shelter inflation, which is not expected to peak until mid-2023. Core inflation is now forecasted to average 6.2% in 2022 and 4.7% in 2023. This will keep the Fed in tightening mode over the near-term, with the central bank expected to hike to a peak of 5% in early-2023.      

Canada 

• The Canadian economy had a similar experience to its American counterpart in the third quarter, also recording roughly 3% growth. This caught many, including us and the Bank of Canada, off-guard and extends an impressive streak of above-trend economic growth. 
• The narrative to Canada is similar to the economic backdrop to the south. Near-term spending is likely to be boosted following another jump in employment. However high inflation and rising interest rates will increasingly take their natural course of action on cooling demand into 2023. 
• One significant departure from the U.S. narrative, was the Canadian consumer spending was weak in the third quarter of 2022. Although spending on services continued to expand, the drop in goods spending was more than offsetting. However, the third-quarter lull followed two prior blow-out quarters on consumer spending, and the early indicators suggest some revival is on deck for the final quarter of the year. 
• This may reflect only a temporary reprieve. As 2023 unfolds, the consumer forecast has been downgraded to reflect a Bank of Canada that has pushed interest rates higher than expected relative to the prior September forecast. This presses harder on a household that displays far higher sensitivity to interest rates due to asymmetric household leverage risks relative to the American household counterpart. 
• Relative to last quarter’s forecast, consumer spending growth for 2023 has been downgraded by 0.7 percentage points marking a larger decline in goods spending and a more pronounced slowing in services. 
• The unemployment rate outlook reflects a peak of 6.5% that corresponds to 110 thousand job losses. There is a risk that Canadian employers may go further. Although the job market reflects tightness based on vacancy rates and low unemployment rates, the degree of tightness is not as pronounced as its U.S. counterpart. Canadian firms were quick to hire exiting the pandemic, with employment 2.7% above pre-crisis peak compared to a U.S. equivalent metric of only 0.7%. If a deeper household deleverage cycle plays out, the job market recalibration would reflect that asymmetric risk.
• In contrast, non-residential investment fares better in the 2023 outlook, as elevated commodity prices, the energy transition, and a robust pipeline of infrastructure projects supports spending on structures and equipment. Recent quarters have already surprised to the upside on this front.  
• As for the Canadian housing market, much of past forecast is playing out as expected, leading to only minor adjustments with average prices falling 22% from their peak, unchanged from our September outlook. 
• Inflation is more cooperative in Canada than its U.S. counterpart, trending roughly one percentage point lower. This, in combination with higher interest rate sensitivity should provide a lower stopping level for the Bank of Canada on its rate hike cycle. We deem the peak rate to be 4.5% in the first quarter of 2023. Both short-term and long-term bond yields are likely to decline over 2023 as the weak economic backdrop causes increasing expectation for policy rate cuts.