Painful adjustment as Canadian and American economies get out of sync: Don Pittis
Plunging oil, fears for housing loom as Fed's Janet Yellen moves closer to interest hike
That wrenching sound is the economies of Canada and the United States tearing apart. Oil is plunging to recent lows. The loonie is heading to levels not seen in more than a decade.
Like plate tectonics at a continental fault line, a sudden divergence between the two economies always causes tremors. As the smaller partner in a long, close relationship, inevitably Canada feels it more.
New recent records for our currency and commodities plus two sets of data out last week, jobs and trade, are a warning the shakeup could be bigger than usual.
- Canadian dollar falls to lowest level since 2004 as oil slips again
- Canada sheds 35,700 jobs in November, unemployment rate up to 7.1%
- Solid U.S. job gains make Fed likely to hike interest rates
It is easy to forget that only six years ago the shoe was on the other foot.
When Canada was strong
U.S. banks were still trembling. Some had crumbled. Unemployment was climbing. The property market was in disarray, as many Americans lost half the value of their home. Foreclosures and repossessions were peaking.
In Canada meanwhile, banks remained strong, backed by a federal government with balanced books. Consumer confidence was strong, too. Canadian housing was rising from peak to peak. The growing demand for commodities like copper, iron and oil meant resource-rich Canada was riding the wave of a commodities supercycle.
But now all that has changed.
The jobless rate in the U.S. has been falling. Last Friday's contrasting jobs numbers in the two countries only confirmed it. South of the border the rate is now a mere five per cent, almost as low as unemployment can go without causing a shortage of workers. In Canada meanwhile, job creation has stalled. Unemployment lingers above seven per cent.
Getting the wrong medicine
But joblessness is not the only place where the two economies are diverging. Federal Reserve chair Janet Yellen seems increasingly committed to an increase in interest rates to quell an economy approaching full capacity.
"I think the economy is on the road to recovery," Yellen said last week. "We're doing well."
Canada's speech from the throne took a very opposite line, warning of "challenging economic times."
At the heart of that economic difference is the collapse of Canada's biggest source of exports: our mineral resources. The tires on the commodities supercycle have burst. The U.S. produces commodities, too, but Canada makes far more than it can use or process.
In Canada this week, primary producers, especially those in the high-cost heavy oil sector, have been pummelled as oil hits new lows for the year. Almost no one thinks the Canadian oil economy will rebound soon. Multi-year projects started during last year's boom are still underway, but as each one winks out, they are not being replaced by new ones.
The U.S. has a much more industrial economy, takes our resources and processes them into high value consumer products. As we have seen in the past, turning cheap oil into expensive gasoline remains a very healthy business.
If it were just a matter of the United States pulling ahead and Canada catching up later as we saw in reverse in 2009, a divergence would not be so bad. But our two economies are so closely integrated that we feel the effect of economic medicine dolled out by the U.S. central bank even though our prognosis is quite different.
Next week's anticipated U.S. rate rise will wash across the border like a sedative being fed to a Canadian economy in danger of nodding off.
Divergence warning
Bank of Canada governor Stephen Poloz is obviously paying attention. In last week's Canadian Monetary Policy Report, our chief central banker actually made divergence in interest rates (interest "policy") the watch word.
"Policy divergence is expected to remain a prominent theme," he said.
This is something many economists have been looking ahead to for years. Despite attempts by the Bank of Canada to keep interest rates low, Canadian companies and mortgage lenders are already facing higher interest rates because our economy just isn't big enough to set commercial rates independently.
Rising rates and a weakening resource economy could spell bad news for a housing market that so many analysts have warned is overpriced.
The one bright spot is the fact that the falling Canadian dollar makes our exports to the United States a bargain. But even that silver cloud has a dark lining.
The prospect of higher U.S. interest rates is already making the U.S. dollar soar relative to other global currencies.
Here in Canada, we measure the loonie against the greenback and see a 25 per cent decline. But in global terms the Canadian dollar rises with the U.S. currency independent of what the economy here at home is doing.
And among recent economic statistics, that is where Canada and the U.S. economies remain firmly on the same track. Friday's balance of trade figures shows that both economies face trade deficits, and in both, exports are falling.
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