The Weekly Wrap, January 26, 2024
A Bank on hold and a western economic forum
By Mark Parsons, ATB Economics 26 January 2024 7 min read
In this week’s ATB Economics Weekly Wrap…
- A pause with no signal - Bank of Canada holds
- Chugging along - U.S. economy won’t quit
- One up, one down - Differential narrows, gas prices slump
- Interesting Fact: The fascinating world of… forecasting!
- Chart of the Week: Western Canada ties - economic contributions and internal trade
- In next week’s Wrap - productivity!
The main event this week was the Bank’s rate pause, but we also have a feature on western Canada on the heels of the first Western Canada Economic Forum held in Calgary on Wednesday. Next week we tackle labour productivity trends in Alberta and Canada.
Sticking to the plan
As expected, the Bank of Canada is holding the line on rates and providing few clues as to what’s next. We are also ‘holding’ our call for the first rate cut in June, with our forecast putting the policy rate at 4% by year end.
This week’s Bank of Canada rate announcement was as expected. The biggest news in our view? The Bank dropped their “prepared to raise” rates warning in the official statement, a dovish move. But then Governor Tiff Macklem in the press conference said they’d raise rates if necessary. Still, the notable absence of the hawkish wording is a sign that rate hikes are in the rearview mirror.
In the fable, the tortoise wins the race. The Bank of Canada seems to agree. As it pivots to lower rates, it will remain patient and slow. The Bank is faced with a stagnant economy (contracting in per capita terms), which by itself should be enough to rein in inflation. But there are inflation pressures lingering: core inflation is hanging tough around 3.5%, inflation expectations are high, and wage growth is sticky. Once we see these things soften, expect rate cuts to be around the corner.
On the forecast front, there was little movement. Real GDP growth was revised down again (by only 0.1 percentage points) to 0.8% in 2024 and 2.4% in 2025. Inflation was also revised down slightly, with the Bank saying we should expect 2% ‘in 2025’.
U.S. economy just won’t quit
The same week the Bank of Canada forecast the Canadian economy would flatline in the fourth quarter (i.e. 0% growth following a 1.1% contraction in Q3), the U.S. released preliminary estimates suggesting the U.S. economy expanded at an annualized rate of 3.3%. This comes after a 4.9% surge in the third quarter.
The U.S. and Canadian economies have parted ways in the second half, with the former shrugging off rate increases. One of the major factors is an extremely resilient U.S. consumer, compared to weakness in Canada.
On the home stretch - TMX getting close
After years of delays and cost overruns, the light is at the end of the tunnel (or should I say pipeline?) for the Trans Mountain Pipeline Expansion (TMX). The project, which will add 590,000 barrels per day of crude oil transportation capacity from Alberta to the West Coast, is now expected to start up in April and be running at full capacity by the end of the year.
The improvement in market access bodes well for the price of Canadian heavy oil, which had been trading at a wider than normal discount. The light-heavy differential has narrowed since November to below US$20/bbl and is expected to improve further once TMX enters service.
Years of pipeline delays and cancellations have challenged the industry. In late 2018, it reached a tipping point, with Canadian heavy oil selling at record discounts of over US$40/bbl relative to WTI and resulting in mandatory curtailment.
Natural gas prices in a lull
Meanwhile, natural gas producers are grappling with lower prices amid elevated storage levels and the return to warmer weather. Some producers may consider delaying spending until prices improve later this year and in 2025 when the LNG Canada liquified natural gas export facility comes online.
While sagging gas prices present some downside to oil and gas capital spending, an earlier completion of the TMX pipeline leans us in the other direction. In December, we forecast a moderate increase in oil and gas spending this year and it’s too early to change that call.
Retool to improve - the art and science of forecasting
It’s not everyday that a major mainstream news source publishes an article on economic forecasting. The Bank of Canada is going through a revamp of its economic models to provide a greater challenge function, including the use of satellite models around the ‘workhorse model’ to interrogate the main results. It will also have a more detailed view of the supply side of the economy. The goal is to improve accuracy, especially during ‘shock’ events like we had through COVID, on the future path of inflation and GDP.
This is a worthwhile initiative. Models aren’t perfect, but better than stumbling around in the dark. Drawing from the world of meteorology, dark clouds may not bring rain and a blue sky may not require extra sunscreen, but it is best to be prepared.
At ATB Economics, we approach the forecasting task with confidence and humility. A confident forecast is one that is based on robust analysis and challenge from different perspectives. For us, that means running an updated model tailored to Alberta’s economy, a forecast committee of industry experts, and detailed current analysis.
A humble forecast is one that recognizes it is subject to change and only one tool in the box when it comes to making sense of the economy. We have introduced scenarios in our public forecast to account for the inherent uncertainty and volatility.
Charts of the Week: Western Connection
I had the pleasure of attending and presenting at the inaugural Western Canada Economic Forum in Calgary this week—a successful event. So successful, in fact, that the event is slated to return next year in Regina. The panels discussed the opportunities and challenges faced by the western Canadian economy.
The western provinces punch above their weight on a variety of economic indicators. The region’s GDP, business investment, and international exports all exceed its share of the national population, and they have for some time. Business investment at one point was 58% of the national total in 2014 (prior to the drop in oil and gas investment), falling to a still weighty 45% in 2022. International exports as a share of the national total exceeded a record 40% last year (comparable data back to early 1980s), fueled by higher commodity prices.
Also noteworthy is the importance of internal trade—that is, trade between provinces and territories. It doesn’t get the attention it deserves. In fact, $103.6 billion of goods and services were exported from Alberta to other provinces and territories in 2022. That’s one-third of Alberta’s total exports and represented 23% of its GDP! In the other western provinces, interprovincial exports represented 16% of GDP in BC, 22% in Saskatchewan and 27% in Manitoba.
Not surprisingly, much of Alberta’s internal trade is with the other western provinces. Over the 2015-2020 period, the share of Alberta interprovincial exports destined to Saskatchewan, BC and Manitoba was just under half (the breakdown by province is lagged a few years). Most of these exports are destined for BC, followed by Saskatchewan and Manitoba. In the goods category, Alberta’s largest interprovincial exports by far are oil and gas (including refined products) and food products.
The Canada Free Trade Agreement between provinces, territories and the federal government took effect in 2017 to reduce barriers to trade, investment and labour mobility. The western provinces have their own agreement. It started with the Trade Investment and Labour Mobility Agreement (TILMA) between Alberta and B.C., which later expanded into the New West Partnership Trade Agreement (NWPTA) between Alberta, B.C., Saskatchewan and Manitoba.
Estimates vary, but the benefits of removing internal trade barriers are significant. A report by Deloitte estimated an initial lift of 3.8% in real GDP, while more recent work by the McDonald-Laurier Institute suggests a long-run boost of 4.4-7.9% in GDP if internal trade barriers were removed through mutual recognition.
Answer to the previous trivia question: Popularized by economist John Maynard Keynes, the paradox of thrift is the theory that—even if it makes sense on an individual level—rising personal savings are bad for an economy during a recession.
Today’s trivia question: What year did Paul Krugman win the Nobel Prize in Economic Sciences?