Posthaste: What the Bank of Canada might make of our shrinking economy next week - Financial Post

Good Morning!

Canada’s economy surprised to the downside in a big way this week when GDP data came in well below expectations.

The 1.1% contraction on an annual basis in the second quarter was a shock, considering economists had expected 2.5% growth and the Bank of Canada, 2%.

“The Canadian economy was not quite as resilient as pretty much everybody thought and there’s more ground to make up at this point,” BMO economist Benjamin Reitzes told the Financial Post. “It’s a longer road to recovery.”

Not only that, Statistic Canada’s preliminary estimate for July calls for a 0.4% contraction driven by declines in manufacturing, construction and retail trade.

BofA Global Research says this signals a weak third quarter, which will also be hit by policy uncertainty because of the Canadian federal election.

Global supply chain problems and the third wave of the COVID virus have been a drag on economic activity, but BofA sees better days ahead.

It along with many other economists cut its forecast for this year to 5% growth from 6% after Tuesday’s GDP data.

But it expects Canada to benefit from above-average growth in the United States of 5.9% this year and 5.2% next. That boost and pent-up demand and advancing vaccinations at home, which should reduce the impact of the fourth wave of the virus, will power the recovery in the new year.

“So we defer some of the growth that we are not seeing now and hence rise our GDP growth forecasts for 2022,” to 5%, up from 4%,” wrote BofA analyst Carlos Capistran.

But how will the Bank of Canada see this soft patch? The central bank meets next week, and both BofA and Capital Economics say the unexpected bad news reduces the chance of further tapering for now.

“We still believe that the BoC will reduce bond purchases further in October, to at least CA$1 billion per week, although there are downside risks to our call now,” wrote Capistran.

Despite the dismal data, don’t expect a dovish tone from the Bank next week, wrote Stephen Brown of Capital Economics.

Brown says labour market conditions that the bank previously expressed concerns about have improved as the employment rate of young people gets closer to pre-pandemic levels.

Inflation too has come in higher than expected.

The economists expect the Bank to downgrade its forecast in October, but not to change its course.

“At both the meeting next week and in October, the Bank is likely to reiterate that it will hold the ‘policy interest rate at the effective lower bound’ at least until ‘the second half of 2022’,” wrote Brown.

The key change, he said, is that the implicit timing will now be toward the end of that year.

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Posthaste: What the Bank of Canada might make of our shrinking economy next week - Financial Post
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