Could rate hikes be ‘over and done?’ What economists say as economy stalls

Click to play video: 'Canada’s economy stalls in 2nd quarter with largest drops in housing investment and construction'
Canada’s economy stalls in 2nd quarter with largest drops in housing investment and construction
WATCH ABOVE: Canada’s economy has stalled through its second quarter. The latest Statistics Canada data show the economy retracted 0.2 per cent annually. Housing investment and construction were the main causes as they dropped about 2 per cent and 8 cent respectively – Sep 1, 2023

Canada’s economy stalled in the second quarter of the year with real gross domestic product (GDP) “nearly unchanged,” Statistics Canada said Friday.

The economy contracted 0.2 per cent annually in the quarter, the agency said, which was enough for some economists to believe the Bank of Canada would keep its key interest rate on hold at its next decision Sept. 6.

StatCan also revised down its earlier GDP figures for the first quarter to 2.6 per cent growth, down from 3.1 per cent.

The pullback in the second quarter came as housing investment fell 2.1 per cent to post its fifth consecutive quarterly decrease.

New construction dropped 8.2 per cent in the quarter, while renovation spending also fell 4.3 per cent.

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Canada’s worst-ever spring wildfire season could further delay housing construction

While Canadians spent more overall in the quarter, StatCan noted that on a per-capita basis, spending was down 0.7 per cent in Q2.

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An early estimate by the agency had estimated Q2 growth at an annualized rate of one per cent. In its most recent projections from July, the Bank of Canada had called for 1.5 per cent annualized GDP growth in Q2.

While most economists have been calling for Canada’s economy to cool heading into the fall, the consensus expectations had been for slowing but still modest growth in the second quarter.
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Unemployment rate rises for 3rd consecutive month to 5.5% in Canada

Some economists have called for a mild recession to hit Canada in the second half of 2023 or in early 2024.

The technical definition of a recession is usually two consecutive quarters of economic decline, though some economists also consider the breadth and depth of the downturn.

BMO chief economist Doug Porter said in a note to clients Friday morning that the latest GDP figures back up the bank’s belief that Canada’s economy will hit a “mild contraction.”

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What does a slowing economy mean for the Bank of Canada?

The economic report comes ahead of the Bank of Canada’s interest rate decision set for next week.

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The central bank raised its key interest rate target by a quarter of a percentage point to five per cent in July as it said it remained concerned that progress toward its two per cent inflation target could stall.

CIBC senior economist Katherine Judge said in a note to clients on Friday morning that the economy’s surprise contraction in the second quarter makes it “very unlikely” that the Bank of Canada delivers another rate hike on Sept. 6.

Early estimates of July’s GDP figures also show expectations for flat economic growth in that month, which Judge said adds to the evidence “that the Canadian economy does not need higher interest rates.”

Porter pointed to the on-and-off strikes at the B.C. ports in July as likely dragging down GDP in that month.

Click to play video: 'B.C. port strike: Crippling impact on Canadian economy'
B.C. port strike: Crippling impact on Canadian economy

The top BMO economist said in his note that the soft GDP figures, combined with recent upticks in Canada’s unemployment rate and signs of cooling in core inflation readings could spell the end of the Bank of Canada’s rate hiking cycle.

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“It now looks like rate hikes are over and done,” Porter said.

RSM Canada economist Tu Nguyen agrees that, barring a significant price shock that drives up inflation again, the Bank of Canada can go back to the sidelines — and stay there.

But she also said in a note Friday that a recession is not a foregone conclusion even as the economy shows signs of weakness. Keeping the Bank of Canada’s policy rate at five per cent should allow the economy to slow enough to bring inflation back to two per cent without causing too much damage, she argues.

High interest rates are starting to take effect and slow spending demand from consumers, allowing supply in the economy to catch up and avoid spurring further inflation, Nguyen said.
“This is exactly what the monetary policy is intended to do: cooling the previously overheated economy,” she said.

“The economy will muddle through the rest of the year as businesses and households rein in spending and navigate a restrictive interest rate environment.”

— with files from The Canadian Press

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