There are many reasons Canadians might feel hopeful about 2013. Unemployment is low and falling. As other nations groan under the weight of collapsed banks, ours deliver healthy earnings. Our federal government is fiscally better poised to cope with our aging population.
Don’t be fooled. The worst is yet to come. Recent anemic growth achieved recently across the developed world—including Canada—rests on a precarious foundation. The forces undermining it are so numerous that at least one of them is likely to tip Canada into a mild recession this year. The imbalances that sparked the 2008 crisis remain largely unaddressed. Western governments at the time undertook bold fiscal and monetary steps that averted what otherwise might have become debilitating financial panics. Central banks printed money with abandon while governments shovelled it into failed banks and ran up massive deficits. All this was predicated on the philosophy that immediate growth must be achieved by any means necessary. The result has been to transfer debt from private balance sheets to public ones, says Saumil Parikh, a managing director at bond giant Pacific Investment Management Co. The cost is that we’re “endangering future economic growth to deliver outcomes today.”
The symptoms are treated; the diseases remain. Banks remain financially precarious and poorly supervised; more will implode. Governments continue running large deficits, which at some point will lead to sovereign defaults far more spectacular than anything witnessed to date. Central banks maintain lending rates as low as possible and buy huge quantities of fixed income securities in a practice known as “quantitative easing”—measures that contribute to damaging asset bubbles.
To varying degrees, all this is painfully evident across the world’s largest developed economies: the United States, Europe, Japan, Britain. Europe seems most likely to deliver a nasty shock this year . The list of broken states requiring official support continues to grow: Ireland, Greece, Portugal, Spain and, most recently, Cyprus. Europe’s problems will worsen as larger countries like France and Italy deteriorate. The European Central Bank recklessly finances further deficits with a flood of cheap loans to profligate governments and banks. “Against such a fragile background, it is not difficult to imagine a situation in which something goes wrong,” observed OECD economists in their recent outlook. Let’s go one step further: it’s hard to imagine things going right.
Canada has been able to plod along thus far, yet is ill-poised to handle external shocks. Expectations are muted: the recent consensus among economists surveyed by Bloomberg was that our GDP should expand by a meager 1.8% in 2013, a pace commonly known as “stall speed.” As a leading trading nation, we are dependent on global demand for crude oil, metals and manufactured goods. If global commodity demand dips— something that looks increasingly likely— you could kiss today’s predictions of razor thin GDP growth goodbye. Meanwhile, we face several significant internal drags. We are entering our own period of austerity. “Public-sector spending— a strong, steady contributor to the economy over the past decade—is now being curtailed as federal and provincial governments try to bring deficits under control,” the Conference Board of Canada noted in a recent forecast. “As a result, the government sector will detract from economic growth for the first time since the late 1990s.”
Residential real estate also long contributed to Canada’s growth. Finance Minister Jim Flaherty has said repeatedly he wants a cooling of Canada’s housing market. He’s getting his wish: housing starts for both single and multiple urban dwellings are now slumping. There goes another engine.
Our greatest problem is closely related: the latest figures place the ratio of household debt to disposable income at nearly 165%, approximately the level seen in the U.S. prior to its debt crisis. Events could compel Canadians to deleverage at any moment, and that would be a hideous drag on growth. Tiff Macklem, deputy governor of the Bank of Canada, acknowledged as much in January when he noted that although low interest rates had stoked household spending, “this growth model is now reaching its limits.” He spoke of a need to “rotate our growth so it is less reliant on credit-financed household spending and more geared to exports, investment and innovation.”
The transformation Macklem urges has barely begun. Meanwhile, numerous imbalances abroad could deliver shocks this year, any one of which could result in two quarters of negative growth here—the technical definition of a recession. Expect a modest one this year. And hope not for enduring recovery until policy-makers here and abroad make meaningful progress in treating underlying diseases.