There’s no denying that Canada’s financial system is one of the strongest in the world, however, the accumulated impact of how several vulnerabilities have evolved over this past year means that a downturn is inevitable. The resiliency witnessed throughout the pandemic does not change the fact that interest rates continue to rise, global inflation is high and geopolitical tensions continue to flare.
Anyone reviewing the data may find it quite discouraging. The Bank of Canada has provided extensive analysis surrounding key vulnerabilities such as elevated house prices and levels of household indebtedness, reliance of some businesses on high-yield debt markets, high potential demand for market liquidity relative to suppl, cyber threats in an interconnected financial system and mispricing of assets exposed to climate-related risks.
At a global level, The International Money Fund (IMF) reports regularly on the three largest global economies continuing to stall with world GDP growth estimated to drop to 2.9% in 2023 and advanced economies to as low as 1.4%.
Global inflation has been increasing over the past year, with the price of many goods and services increasing by more than 20%. The obvious contributors remain, such as worldwide pandemics and natural disasters, limited supply of raw materials, and positive global growth trends that have pulled many emerging economies out of recession. It is likely that inflation will continue to rise in the coming months, and another interest rate hike for is expected again in late October as inflation remains above the two percent target.
Economic pressures are certainly closing in and while we should be bracing for a bumpy ride, it is a storm that can be weathered.
Statistics Canada recently released July data showing that manufacturing and wholesale trade posted declines, however the mining, quarrying, oil and gas sector grew by 1.9% after following slight declines two months prior. Forestry, fishing, hunting and agricultural sectors also grew as overall crop production increased.
In an outlook released this past July, Royal Bank of Canada cited “This recession will be moderate and short-lived by historical standards—and can be reversed once inflation settles enough for central banks to lower rates.”
Technically, a recession is defined by two financial quarters of decline in economic activity. There are varying levels to recession, such as the “great recession” of 2008 where the economy contracted by 4 to 5% across several quarters and unemployment rates remained between 5 and 10%.
It is expected that, while growth worldwide will be minimal, the economy itself will continue to expand, just not strongly enough at a pace required to maintain pre-pandemic levels of stability. As financial pressures are felt throughout our households and the surge in consumer demand begins to level out, it is expected that inflation will begin to cool off.
Aside from the European war continuing to disrupt natural gas prices, supply chain relief has been seen and global shipping indicators are showing continuous improvement for time and cost for transporting of goods. These trends are well-received throughout several sectors that have been navigating tumultuous pricing changes and unprecedented delays in delivering their own goods and services to consumers.
As the world recovers from pandemic-related supply constraints and demand rises, policymakers will have to take strong steps to boost global supply. These include lowering trade barriers, investing in infrastructure projects, and promoting free trade agreements with developing nations.
Policymakers should also accelerate the transition to low-carbon energy sources and introduce measures to reduce energy consumption. Increased demand for oil in Asia will lead, on the supply side, to more investment in new fields, greater exploration of shale gas and tight oil, and a faster rate of depletion of existing fields. On the demand side, this will lead to increased trade flows with Europe and India as well as competition for resources.
With respect to strains on workforce, reduced cost of work-related expenses and increasing the availability of public or subsidized jobs is something the government is focused on. More consideration needs to be placed on labor-market policies that will ease constraints in the labor market, increase labor-force participation and reduce price pressures, such as easing constraints on employment arrangements, introducing tax incentives for work, and promoting education opportunities and training programs.
In summary, while a recession is imminent, we will persevere. Being prepared for difficult times has always been advice well worth taking and today’s climate suggests that advice is exceptionally relevant now. The country's debt-to-GDP ratio is one of the highest in the world and its vulnerability to a housing correction is far higher than other developed countries. Do not let this be the case for your household. Make every effort to avoid over-extending yourself. This is an excellent time to review your portfolio; most importantly make sure you have enough cash on hand to weather any potential storm and understand how long you can last without taking new risks or investments. Keep your eye on the news, especially with regards to the country's economy and central bank policies. As always, diversification is key when protecting against risk so keep this in mind when building up your portfolio. If anything seems too risky, think twice about investing. Lastly, make sure to remain in contact with your financial advisor on all matters related to your portfolio.
Resources: https://www.bankofcanada.ca/2022/06/financial-system-survey-highlights-spring-2022/ | https://www.imf.org/en/Blogs/Articles/2022/07/26/blog-weo-update-july-2022 | https://www150.statcan.gc.ca/n1/daily-quotidien/220929/dq220929a-eng.htm?HPA=1 | https://thoughtleadership.rbc.com/canadas-economy-is-headed-for-a-recession/ | https://www.britannica.com/topic/great-recession | https://www.bankofcanada.ca/2022/01/assessing-climate-change-risks-to-our-financial-system/