[CIBC Investor's Edge Where in the World Are We? Canada's Place in the Global Economic Cycle: A closer look at where Canada is situated relative to global trends.]

 [Andrew Grantham will present today's webinar on behalf of Benjamin Tal.]

 [This event will begin shortly.] 

September 12, 2017 12:00 pm to 1:00 pm ET

Hello, everyone, and thank you for joining us today. On behalf of CIBC Investor's Edge, I would like to welcome you all to this event with Andrew Grantham. My name is Dimple, and I will be your host for this event. Now a few things to note before we get started. 


CIBC Investor Services Inc. does not provide investment or tax advice or recommendations. So everything we share today is for education purpose only. Also, we are recording today's session and will be available on our website. The link for replay will be available on our homepage. 

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If you wish to view this webinar full screen, please click on the expander arrows located on the top right-hand corner of your screen. And should you have any question during the presentation, kindly take a note and you will have the opportunity to submit your questions after the presentation. 

[SPEAKER, Andrew Grantham] 

Today, our intention is to have a closer look at where is Canada's place in the global economic cycle. We are so fortunate to have Andrew Grantham, Senior Economist with CIBC. Andrew has a wide range of experience in different areas of economic and financial market forecasting. Prior to joining CIBC in 2011, Andrew worked in London, England for one of UK's largest banks. Since joining CIBC, Andrew helped CIBC win MarketWatch's monthly contest for US forecasters five times. He is regularly quoted by the print and electronic media. We are so excited and proud to have him with us this afternoon. So with great pleasure, please join me in welcoming Andrew Grantham. Hi, thank you very much, and thank you everyone for joining today's webinar.

[Where in the Word Are We? Canada's place in the Global Economic Cycle] 

The title here, "Where in the World Are We?" And a kind of quick answer to that and a short answer to that actually is we're in a pretty good place actually at the moment in terms of the global economy, and also in particular, the Canadian economy as well. Indeed, if we put together the second half of 2016 and the fast half of this year, the growth that we've seen over that 12-month period is probably the best 12-month period of growth that we've seen for the global economy, and in particular for the Canadian economy really since the financial crisis. So it really has kind of been party time for the Canadian economy and also the global economy recently. And there are concerns however that there are people out there who are looking to spoil the party a little bit. 

[Party Poopers?] 

We have Janet Yellen from the Federal Reserve already started hiking interest rates fairly early, they're doing it fairly slowly. The interest rates in the US are going up. Governor Poloz of course here in Canada has now hiked interest rates twice this year. Remember, at the start of the year, he was actually talking about maybe cutting interest rates again, so that's kind of quite a big turnaround that we've seen from the Bank of Canada over, you know, just a seven to eight month period. And then even in Europe Mario Draghi there is talking about winding down the quite considerable stimulus that the ECB has been pumping in to the European economy. So will they spoil the party? Will the party stop? Will global growth stop because of this? Well, what we need to do then is, you know, take a little bit of perspective, and interest rates globally, in particular, are still extremely, extremely low. 

[Not Really...Global Interest Rates Still Very Low] 

Even the increases that we had already seen from the Federal Reserve now combined with the Bank of Canada, if take a weighted average of interest rates from some of the main banks around the world, which includes the ECB, the Bank of England, Bank of Canada, and banks in Australia as well, the actual combined interest rate, the weighted average interest rate is actually lower than it was in mid 2011. And in mid 2011, now this was when the ECB made the mistake of actually hiking interest rates twice, we still don't know exactly why they did so. There was a thing called the sovereign debt crisis around that time, you know, which would have meant that, you know, they really shouldn't have done that. But as you can see here, interest rates are still extremely, extremely low on average around the globe. It's going to take a few more hikes from the Federal Reserve, a few more hikes from the Bank of Canada, that yellow part of the line there to see those interest rates even get above the average of where they were in mid 2011. So we should really just be talking about slowing the party down, maybe turning the music down a little bit in terms of growth, not kind of turning the music off altogether. Interest rates are still very low. This is still a very good backdrop in terms of growth. 

[Sensitivities To Interest Rates Different to Prior Cycle] 

But what we do need to think about around the globe isn't just how high interest rates are on average but those parts of the world which are now more sensitive to higher interest rates than maybe they would have been in the previous cycle. So what this chart here shows is the difference between the debt service ratio, basically, how much of your income you have to spend to service the debt that you hold, where that stands now versus where it stood in the previous cycle. So you can see Japan, the US, households there now hold a little bit less debt relative to their income, so that debt service has actually come down a little bit from when interest rates were rising previously in the last cycle. The economy is at the top of the range here, China in particular is a lot more sensitive to higher interest rates now. Canada and Australia, we're also there as well, we'll talk a lot more about the Canadian sensitivity to higher interest rates later. But this is why when interest rates do start going up, you're going to have to see, you know, a very careful or carefully managed increase in interest rates particularly in those areas which have a greater sensitivity to higher interest rates now than what they had in the past. And we've already really seen this when it comes to the Chinese economy over the last few years. 

[China May Have Accelerated More Than Official GDP Data] 

So what happened kind of in 2014, 2015 is that China tightened policy and that led to quite a distinct slowing in growth, if you people remember back to the period, I think it was late 2015 and into the start of 2016, financial markets were very worried about what people were labeling a hard landing in the Chinese economy. The slowing in the Chinese economy hadn't really been showing up in the official date, which is the yellow line on this chart. I'm not going to say that China makes up its data, I'm sure it smoothes out some of the peaks and troughs, but what we do at CIBC, we kind of put together a range of on-the-ground indicators such as electricity use, such as freight volumes, and that's this red line here, it generally tracks the official GDP very well, but during that period, it was really undershooting what the official numbers were suggesting. Now what happened at kind of the start of 2016 after that concern or to alleviate that concern, the Chinese authorities stepped in and they really stimulated the economy there, they reduced interest rates, they increased the amount of money that they were lending, fiscal policy as well, government spending really increased. And if anything now, the Chinese economy is probably growing even faster than the official data suggests. Our indicator here suggests something in the region of 9% rather than the official target of 6.5%. So China is going to tighten policy, they already have been tightening policy, and that will lead to a slowdown in the Chinese economy going forward. We shouldn't expect these sorts of growth rates to continue, but because of that higher sensitivity to higher interest rates, which we talked about on the previous slide, you know, it isn't an easy process and we do sometimes get these examples which was during that period of 2015 and into 2016 where you get this undershoot versus what the official data was suggesting. 

[Is China's Impact on Global Economy Changing?] 

Now what we also need to think about when it comes to China is how China's impact on the global economy is evolving? We're not just investing, we're not just making investment decisions about if Chinese GDP growth is 8% or 7% or 6% or 5%, we need to know where that growth is going to come from. And I think one of the interesting things that we've noted maybe over the last five years is that the Chinese economy and its impact on global financial markets has really shifted. If you look before the financial crisis and in the years straight after the financial crisis, China played a really key role in driving commodities. The commodity super cycle we saw prior to the financial crisis, the mini cycle that we saw after that. But what this chart shows is particularly when it comes to some metals, you know, China already accounts for a great deal of global demand in that area, it's not going to see its share of demand in terms of the global economy continue to rise. And even, you know, it is coming down a little bit when it comes to copper, for example. But what we've seen over recent years is that, you know, China has evolved, it has become more service orientated, the Chinese consumer has become a much bigger player in terms of global growth, and that's what we're seeing picking up now, and that's what we're seeing driving some growth. And it's not the cheap stuff that the Chinese consumer wants, the way to play the Chinese consumer recently has been through kind of high end products, you know, the luxury goods that they want from the Western world. So, you know, for example, five years or so ago, China imported less than 5% of the wine that was exported from France. Now it accounts for more than 15% of the share of wine that is exported from France. They want the best, they want the quality. And looking at it the other way around in terms of Chinese imports, you know, you can see that, you can see that they don't want, you know, second best. In terms of their imports into China of all the wine that China imports, more than 40%, indeed almost 50% is from France. You know, they want the best, and that's the same when it comes to, you know, leather products from Italy, that's the same when it comes to watches from Switzerland. 

[Surge in China Tourism Spending (L), With Per Trip Outlays Rivalling Big Spenders (R)] 

The Chinese consumer demands the best. And some of these export figures, some of these trade data will actually undersell just how big a player the Chinese consumer has been in terms of global financial markets recently. Because, you know, not everything is available in China, it's not, you know, it is becoming easier to import into China, to sell your goods in China, but it's still not as easy as it is to sell your goods in some other countries. In some respects, Chinese consumers who want these luxury goods actually have to travel outside of China to buy them. And this has contributed to this really big surge that we've seen in Chinese tourism expenditure. You see over just the last kind of six or seven years, they've gone from running well below the US in terms of total tourism expenditure to way above the US total. And that's come because their spending per trip has increased by almost like 250%. The Chinese consumer isn't just importing a lot of luxury goods, they're actually traveling to these countries and buying the goods from there as well. So this is really kind of the way to play China at the moment. It isn't necessarily through commodities anymore, it's through the Chinese consumer and what they're demanding. And what they're demanding is a lot given how much they're spending, but it's the best, it's the luxury goods that they're really after.

 [Median Forecasts from Oil Analysts: More Realistic Assumptions] 

That doesn't necessarily mean though that we should kind of ignore commodities all together. We're not particularly bullish on oil prices. We don't see prices rising too much above the $50 mark any time soon. But when you're talking about equities that are linked to oil prices, the energy companies, you know, one of the good things or kind of a more encouraging factor at the moment is that the price of the equity themselves, you know, how much it is in the market at the moment, it's pricing in a much more relevant potentially oil prices, it's not per pricing in the high oil prices that it was before. So even during 2016 and we're talking here like a year, a year and a half after oil prices started to fall, a lot of equity valuations were still expecting kind of $65, maybe even as high as $70 dollars in terms of oil price, those were the ones which those valuations were based off. But they've come well down now. And at $55 for 2018, $60 for 2019, you know, these energy companies are at least being priced off much more realistic assumptions for oil prices, you know, versus our expectations.

 [Euro Sees Big Appreciation Already (L), But Economy Should be Able to Cope (R)] 

Now when we talk globally, it's not just China that's driving the upturn in global growth, even though China is a very big player in that respect. You know, one of the things that we have also seen over the last few years is a real pick up in Europe as well. Finally, after such a long period of very slow, sluggish growth in Europe, that has really picked up. At the start of the year, we were very bullish on the euro because we saw how growth in Europe was picking up. We thought that the ECB by the end of this year would be pulling back on their stimulus, which is generally positive for the currency. As the chart on the left-hand side here shows, we have already seen quite a big move up in the euro. But this shouldn't put too much of the growth that we've seen in the region at risk, and we should see some further growth and maybe there's some further appreciation of the currency. The right-hand chart here shows based on the ECB's own sensitivities, the impact of that big increase in the euro in terms of growth, maybe take off about a quarter of a point, maybe a little bit more, but even then, you know, around 1.5% just above, that's actually higher than the potential long-term growth rate in Europe. Now Europe would still actually be growing pretty strongly and allow the ECB to pull back on some of their stimulus efforts. And that's really, you know, has an impact on us here in Canada as well. You know, even though we don't export a lot directly to Europe, those interest rates, the longer term interest rates that have been weighed down by ECB buy in of German and other European debt. Alongside the Bank of Japan's purchases as well in their constatives and program has had impact on bond yields here as well. And what's interesting to note is that over the last few months, we go back to a June speech by ECB President Mario Draghi suggesting that he was going to pull back on stimulus in Europe later in the year. That actually had a bigger impact, about a 20-basis points or 0.2% impact on the 5 year Canadian government bond yield. It had a bigger impact than actually either of the Bank of Canada rate increases that we've seen. So the Bank of Canada impacts the shorter end of the curve of the two year bond yield, but those five year bond yields. And those are the bond yields that the five year mortgage rates would be priced off of are actually having an even greater impact from what's happening in Europe and what's potentially going to happen from the ECB, and we're waiting to hear a decision from the ECB which could see those five year interest rates move higher.

["YUUUUGE" Promises...] 

Now in terms of the US outlook, it's certainly safe to say that the politics has been a lot more interesting than the economics in the US recently. Obviously, after the presidential elections last year, we had these big promises of tax cuts, big infrastructure spending, billions of dollars, no, no, sorry, sorry, $1 trillion worth of infrastructure spending, which hasn't really materialized, we haven't seen any of that. And so financial markets got very excited bond yields, drove the US dollar, appreciates it straight after the presidential elections. Certain equities such as financials did very well in that respect as well. But recently people have been concerned that the reality is actually a lot less. 


[...Reality a Lot Less]

You know, we haven't really seen any or we haven't seen any fiscal stimulus here, we haven't had a firm package when it comes to tax reductions, we haven't really seen any of this stimulus that we thought was going to be coming through. And so what financial markets are doing is they're pricing out the likelihood of this happening, and we can see that through the US Treasury yields, we can see that through, you know, for example, US financials. Now what we would say, you know, at the moment is that financial markets do go through these kind of very highs and very lows, they tend to react and then overreact to events. So, you know, straight after the presidential election, I think it's certainly safe to say that they overreacted, they priced in too much in terms of stimulus, but maybe at the moment, you know, they're pricing in a little bit too little and that maybe by the end of the year or certainly within the next six months, we would at least get some sorts of package through in terms of tax cuts or at least some sense of some higher infrastructure spending. 

[Rise in Consumer Sentiment Not Uniform Across Age Groups (L) Younger Households Have Greater Deviation in Spending (R)] 

Now the other impacts or the other aspect of, you know, what's happening in the US, why people are being a little bit disappointed as well as, you know, not getting so much from the government in terms of spending as they expected, you know, what we had been seeing is, you know, consumer confidence, business confidence, all these sentiment indicators for the US, they were rising particularly just after the election, they were rising to levels which were consistent with very strong growth historically, kind of 3% or 4%. But we seemed to be stuck still in this 2% range that we had been stuck in the US for a long time. And one of the reasons for that, and it's probably a good thing that I can't see, you know, the people who I'm speaking to because I might, you know, anyone who is in an older age group, I might upset, I apologize for that to start with here. But one of the reasons why we're seeing that disconnect between consumer confidence and spending is that the increases in confidence haven't really been in the right areas in terms of age groups. Now even though people aged 55 and above are becoming a lot bigger in terms of their share of the population, it's actually still the younger people who tend to drive the volatility in terms of consumer spending growth because if you think about it, by the time you're 55 or older, you tend to have a bit of wealth stored up to fall back on. So if your hours are cut or your job, if you decide to retire, you know, your spending doesn't really suffer too much whereas when you're younger, you have debts rather than any kind of wealth to fall back on. So, you know, that's the age group where you're more likely to be kind of living paycheck to paycheck. And what these charts show on the left-hand side is that consumer confidence for that younger age group in the US has actually fallen since 2015. And the right-hand side just shows, you know, it's their variance in terms of consumer spending that actually tends to drive the shifts. And I don't think it's any surprise that actually, you know, if we look back at the US economy since the financial crisis, 2015 was actually the best year for consumer spending. I don't think it's any coincidence, but that was also the year when younger people were finally seeing the biggest job increases, and also, that's when consumer confidence among those younger people was at its highest as well. So that's why we're kind of seeing this disconnect between confidence indicators and what people are actually spending on. I should warn, this isn't so much a negative outlook on the US, it's just, you know, we are kind of stuck around this 2% growth rate, it's not really, you know, too exciting in terms of the US economy this year. 

[US Inventories High, Even Excluding Oil...] 

And another factor which is kind of also dampening growth as well is that the US has or is, at the moment, holding quite high inventory levels. Now, again, I can't see anybody's faces, but I'm sure a lot of people's eyes glazed over when I used the word inventory. I know it's not the most interesting topic, but it does hold back future production. If you've already got a stock of certain goods, you're not going to produce more, but it is also important as well because it impacts us here in Canada because if you think about it, if you hold the stock of a certain good or certain product already, you're not going to produce it yourself, but you're also less likely to import it as well from your trading partners. 

[...particularly in Areas Important For Canada] 

And what we've seen in terms of the breakdown for US stocks and US inventory is that they are holding fairly high inventory levels in some areas that are actually quite key for us here in Canada. So in terms of overall US inventories, you know, they're a little bit elevated verses where they would be historically, but in terms of autos, machinery in particular, those inventory levels are fairly high. Now if there is a silver lining on this, and I hate to, you know, when there's an event such as a hurricane that puts lives at risk, that creates such devastation, you know, I hate to talk about positives or advantages from that, but, you know, what we will probably see over the next month or two when the data comes in, particularly when it comes to autos is that the replacement of all those cars that were destroyed from Hurricane Harvey were probably, actually, greatly reduced, you know, the difference there between inventories and shipments in the US and could actually get rid of, you know, most of the overhanging inventories there, so that is a silver lining for, for example, automakers here, you know, they will kind of benefits a little bit from the replacements of those cars in the US following the devastating hurricanes that we've seen over the last few months. 

[NAFTA: Good Cops]

Now when it comes to trade with the US, you know, it's not inventories that get the headlines, it's NAFTA and the negotiations there. And it's safe to say that we're still kind of a bit undecided, we're still a bit uncertain about, you know, what to expect, you know, from those negotiations. Certainly, from a few people, a few key people within the US regime, we've heard some good things. We've heard from Pence, for example, "We will modernize NAFTA so that it is a win-win for all our trading partners." Wilbur Ross saying here that, "More than our entire deficit with Canada comes from hydrocarbons and electric energy. That's not blameful export." So, you know, that's the kind of trade deficit that they should be happy to run and actually are, you know, pointing out that outside of energy, our trade balance or our trade situation with the US is actually extremely balanced. And then from all these good news that comes from certain people, then you get the bad cop, the President himself, tweeting out every now and again, you know, "We can't let Canada take advantage of our workers and farmers. 

[NAFTA: Bad Cop?] 

You know, lumber, timber, and energy. We lose to Canada big league. Tremendous, tremendous trade deficits." So we don't really know who is going to win the day, whether it's going to be the good cops or the bad cop when it comes to the NAFTA negotiations. You know, our base case is that NAFTA will be rewritten in a way that is probably negative for Mexico, is positive for the US, and leaves Canada kind of somewhere in the middle with some sectors losing out, you know, for example, dairy probably, but also some sectors potentially gaining as well. And I think, again, coming back to the auto sector here, you know, the auto sector has lost over the last decade or more a lot of capacity, a lot of productive capacity at the expense of Mexico. Mexico has made huge gains in the auto industry, to borrow a phrase huge gain off the person who is on the screen. But that has been the case. We have lost a lot of capacity to Mexico. And so that is one area which is potentially positive from a rewritten NAFTA is the auto industry. 

[Financial Markets Complacent to NAFTA Risk?] 

Now one thing that we certainly should expect from the NAFTA negotiations are, one, you know, kind of more surefire way of playing them is that, you know, we probably will see an increase in volatility particularly in financial markets... Particularly in foreign exchange markets, sorry. So what this chart here shows is, you know, the peaks in terms of volatility in the foreign exchange markets in 2016, so around the time of the presidential elections when you probably got most of these peaks, where it stood at the start of this year and also where it was as NAFTA negotiations began. And as you can see here, maybe financial markets, maybe the foreign exchange market, a little bit complacent about what to expect from NAFTA negotiations. And generally, an increase in volatility in financial markets, an increase in volatility in exchange rates does often lead to or go hand in hand with a little bit of a depreciation. 

[BoC: Keeping C$ From Worrisome Levels?] 

So what's really kind of driven the Canadian dollar higher recently has obviously been the Bank of Canada, big change around in the Bank of Canada policy going from suggesting that they may even cut interest rates at the start of the year to have actually hiked twice already within the space of a couple of months just recently, that's driven the Canadian dollar higher and even higher than this chart shows as well. And what's kind of been, you know, a bit odd for us is that, you know, when the Canadian dollar has reached or when USDCAD here has reached the 125 level, that's $0.80 cents for people who like to think about it the other way around. But in the last few years, when it's reached that level, the Bank of Canada has actually tried to talk it down in 2015, it said in its statement the Canadian dollar has strengthened with higher oil prices, the net effect will need to be assessed. That was basically code for we might have to downgrade our forecast because the Canadian dollar is too strong. And they said a similar thing in 2016 as well when the Canadian dollar got around the $0.80 mark. We haven't really heard anything from them this time around. But I do think that is coming, I think that maybe the statement that they released alongside the rate increases, the rate increase just last week was maybe misinterpreted by financial markets a little bit. Governor Poloz is speaking in a week-or-so's time, he has a big speech. And I think he will use that to address the Canadian dollar and the strength that's had. So potential volatility around NAFTA negotiations, attempts by the Bank of Canada to talk the Canadian dollar down a little bit, probably a good time at the moment to be stocking up on those US dollars. 

[Canada: The "Ex" Surprises in 2017] 

And one of the reasons why we think that he's going to be talking it down is that, you know, a lot of the energy or a lot of the exports that we've seen recently in terms of export growth has actually come not from manufacturing necessarily but actually just from higher volumes of energy products and more barrels of oil. In terms of the Canadian outlook though, the real surprise this year has actually been what the economy was doing excluding energy. So what the chart on the left-hand side here shows is basically the swing from the contribution from the oil and gas sector, obviously, big negatives to growth in Canada in 2015, 2016, coinciding with the recessions that we saw in the oil producing provinces of Alberta and Saskatchewan that turn into slight positives because we are producing more barrels of oil and because we're not seeing those big reductions in terms of capital spending and investment within the sector. But we kind of knew that when the year started. We were already seeing a little bit of a pick-up in oil prices, we were already looking at companies within the oil sector that were saying that they were going to invest a little bit. So this really isn't the surprise. The surprise is that growth excluding the oil and gas sector hasn't just held onto the gains that were seen during 2016, but it has actually accelerated even further. And what we're talking about here is consumer spending. We did an exercise just after the Bank of Canada last week looking back at what we in the Bank of Canada were expecting for growth at the start of this year versus, you know, where expectations are at the moment, consumer spending, about 1% more in terms of consumer spending growth than people were expecting at the start of this year. So that's been a big surprise, that's been the strength of the Canadian consumer, and that's, you know, relative to what we've discussed previously about the US. The US consumer has been underwhelming versus what people's expectations were particularly in relation to confidence indicators, the Canadian consumer actually the opposite, has actually being punching well above where we were expecting it to be. And the other kind of big positive as well compared to expectations at the start of the year has come from the housing market.

[Housing a Large Growth Contributor in Ontario, BC (L), But Not Really Overbuilding vs Household Formation (R)] 

Now obviously this is where the big risk comes when it comes to raising interest rates, so, you know, it's the housing market, it's spending durable goods such as autos, for example, those tend to be the areas that are most impacted by higher interest rates. So what the chart on the left-hand side here shows is just the contribution to the growth rates in a couple of the key provinces where housing has certainly hit the headlines, Ontario and BC, the contribution that has made to growth in the province over the last couple of years. You see here in Ontario, it's been, you know, about 0.5%, a little bit higher, BC, probably even more than that, maybe about a full percentage point. So higher interest rates call in the housing market does put on risk some of the growth that we've been seeing particularly in these provinces. But in terms of housing construction, which is where kind of the big impact in GDP is, it's not from the resale market, it's actually from the construction of new homes because that feeds into the demand for lumber, for transportation, and a lot of other things. You know, we actually aren't building, and this may seem strange to people who have visited Toronto or live in Toronto and have seen all the cranes up with the high-rise buildings, we haven't actually been building that much more relative to demographic needs and demand. And that's because we are getting a lot of immigration into the country, particularly into Ontario now and also because we are seeing people move away from other parts of the country, moving back to Ontario, moving to BC as well. So, you know, this does look a little bit of an increase in terms of housing completions to household formation. I should note here that I think the titles have got mixed up. The real GDP percentage change is on the left-hand side, ratio of housing completions to household formation is on the right-hand side. Anything above one is a little bit of an overbuild, but just put that in perspective, the US, before the housing market crashed there, we are always asked, you know, by a lot of different people, a lot of different clients to compare the US and the Canadian housing markets. Before the US housing market crashed, it was building almost two homes for every household that's formed. The little amount of overbuilding that we're seeing here maybe 10%, 15% in Ontario and BC, you know, that's actually very small and that could just be replacements of old homes, which actually needed to be renovated and which needed to be torn down. So we're not seeing a massive amount of overbuilding in terms of the housing market. The real risk is what comes from higher interest rates and the impact that that has on the resale market. 

[A Mountain of Debt, at Very Low Rates (L), Makes Each 100 bps a Greater Squeeze on Consumers (R)] 

And the fact that higher interest rates, you know, will have a bigger impact now is kind of demonstrated in these two slides. We've got used to having these very low interest rates. This is the left-hand chart here is the effective interest rate on household debt. You know, that has almost been a straight line going down since 2000. There hasn't been much break in that. That's being helped by low interest rates around the globe. It's also being helped by, as I mentioned earlier, the ECB, Bank of Japan keeping bond yields even further out the curve, the 5 years, 10 years, keeping those low as well. And what that's kind of encouraged I guess is for people to have a little bit more debt. And those higher debt levels means that if this effective interest rates on household debt were to rise, and this isn't just something that can happen from Bank of Canada rate hikes as well, this is, as I said, also something that can happen from the ECB and other central banks pulling back on stimulus and causing globally a rise in interest rates. It is going to have a much bigger impact on consumer spending, on the purchasing power of consumers than it did in the past. So what we show in the chart on the right-hand side here is the impact of 100 basis points increase in that effective interest rate on consumer spending. And that would have quite a big impact and a much bigger impact than it would have done historically. So another way to look at this is that, you know, 1.2% hit now versus, you know, about 0.8% hit the last time we saw a very uniform rise in interest rates around the globe, which was just after the US recession in the early 2000s, now it's about 50% more impact, so 75 basis points worth of an increase... Or 50, sorry, basis points worth of increase nowadays would actually deal the same impact, the same damage to consumer spending and consumer pricing power as 75 basis points kind of 15 years ago. So we are a lot more sensitive to higher interest rates. And this is one of the reasons why we think that firstly the Canadian economy will slow down from the blistering paces that we seen recently but also that the Bank of Canada will be actually fairly gentle when it comes to hike in interest rates.

[BoC Rate Hikes Already Priced Into 2Y Yield (L) But Inflation Assumptions Are Too Tame(R)] 

It doesn't feel like that at the moment because we have seen two hikes in fairly quick succession. But, you know, what we think now is that financial markets may actually be over pricing how much the Bank of Canada hikes interest rates over the coming few months. Indeed, financial markets were actually pricing in another hike this year. We don't expect that, we think they're going to wait till next year, maybe even as long as the second quarter of next year to just assess the impact that these hikes and the appreciation of the Canadian dollar has on the financial markets... Sorry, on the economy. So the left-hand side here shows that actually, you know, we expect fewer rate hikes in the Back of Canada, which means that at these levels, even though they don't seem particularly high, maybe the two-year Government of Canada bond yield is actually fairly attractive for those looking for a fairly safe investment over a short period of time. When it comes to the longer end of the curve, as I said, there's five-year bond yields, they are being weighed down by what's been happening globally with the ECB, with the Bank of Japan. So as they withdraw, we probably will see a rise in bond yields at the longer end of the curve. In our forecast there on the right-hand side is actually for those yields to be higher. So this is, you know, the yield curve will steepen, but maybe, in terms of the short end of the curve, people are now pricing in a little bit too much for the Bank of Canada. That makes the two-year bond yield fairly attractive. That also, again, as I said before, means that the Canadian dollar could probably depreciate a little bit from here and get back towards those, you know, maybe the 130 sort of mark, so we're talking kind of a sub-80 cent or sub-85... 

[Canadian Minimum Wage Increases Rival Largest in US] 

Yeah, sub-80 cent Canadian dollar again. Now just to kind of wrap things up, one of the things that we get asked about, you know, quite a lot, particularly from people local to here is minimum wage increases, the impact that they can have on the economy. Now this is a thing, when it comes to minimum wages, this is a classic thing that you ask two economists the same question, you get three different answers. This is something that no one can really agree on. There's a whole host of academic literature that's been written on minimum wage. No one can really come to a firm conclusion whether higher minimum wages are good or bad for the economy in general. Certainly, you know, the people who get paid the minimum wage, they have a greater propensity to go out and spend the money that they earn. So that will have a positive impact for consumer spending. But those companies that are forced to pay the minimum wage, maybe they don't hire as many people, so, you know, consumer spending actually is detrimentally affected by that. What we've done is kind of looked at a more sector breakdown of it. And one of the ways that we can assess the potential impact of minimum wage hikes, and we are seeing big hikes upcoming over the next few years is to actually compare them with what's been happening in the US because the US, certain states in the US, Washington, New York, California as well, big state that's increased minimum wages, they've already started to raise these minimum wages quite a bit. And that has really been kind of a sector specific impact. So I read a lot here about people talking about the impact of minimum wages on groceries, for example, those areas of the economy that tend to pay a lot of their staff the minimum wage. 

[Ability to Keep Prices Low (L) and Spending up (R)] 

But actually, really, when you look at the US, it's been restaurant sales that have been more detrimentally impacted by higher minimum wages rather than the grocery stores, and that's because labor just makes up a greater proportion of their cost. They've had to raise their prices because of these higher costs, which means that, you know, the prices have become, you know, too high really versus people's cost of eating out. So that's what the chart on the left-hand side there shows, kind of between a 10% or 15% increase in the cost of eating out in the US versus the cost of eating at home. You know, a lot of that because of the minimum wages that these restaurants are paying. And the charts on the right-hand side shows, you know, food away from home spend in Canada holding up pretty well, but because of those higher costs, the US actually falling. So really, when you're talking about the minimum wage and the impact that that has on the economy, it's not really a macro story necessarily, but there are certainly some sector-specific issues which we need to be aware of. 

[Interest and Exchange Rate Forecast] 

These are our forecasts. And please don't memorize these too much and test me on them in a year's time. I can almost guarantee that every single number on here will be slightly wrong at least. But, you know, I think, to us, it does make sense that the Bank of Canada is going to have to take it slower from here when it comes to raising interest rates. That will be slightly negative for the Canadian dollar, so stock up, as I said, on US dollars now, it's probably a good time to do that and probably also means that the bond yield, the two-year bond yield in Canada could actually come down a little bit between now and the end of the year. It actually makes that two-year bond fairly attractive to buy at the moment.


So that's all from me. I think here we've done a reasonable job in terms of a world tour there. And I'm going to take some questions, some questions which hopefully will be coming through. 

[Q & A] 


Thank you, Andrew, that was an amazing presentation. So while Andrew is reviewing the questions, I wanted the audience who joined in later to know, you can type your questions in the Q&A panel located on the right-hand side of your screen. Please avoid asking questions that are specific to a security or a company. And since our presentation today pertains to Canada's place in the global economic cycle, we would encourage you to ask questions more specific to this topic. Also, a little reminder that if you wish to listen to this webinar again, a link will be emailed to anyone that registered or you can also access this on the CIBC Investor's Edge website. We have some great questions coming in. Let me turn this to Andrew so we can have as many questions answered as possible. 


Okay, and I don't know whether it's my accent, but I always seem to get this question first, the impact on euro zone of Brexit. That tends to be a popular one that I get asked at almost every presentation. You know, we wrote a fairly detailed article on Brexit or the possible impacts of Brexit before the vote actually even happened. And, you know, what we suggested was that there would be negatives particularly for the UK economy, but that maybe, you know, people, ahead of time, were getting a bit too carried away, they're getting a bit too pessimistic. And I think a lot of that was actually driven by the Bank of England being too pessimistic and installing fear in people. I won't go into that too much, I could talk at great lengths about, you know, what I think the Bank of England did wrong or didn't do wrong during that period. But, you know, I think now, if anything, and this is what I touched on earlier is that markets and researchers often shift from being too pessimistic to too optimistic. I think people now are maybe a little bit too optimistic for the UK or at least they were at the start of the year. You know, there are going to be some impacts from Brexit in terms of business investment, for example. We're already starting to see some impacts on consumer spending. That's why I'm actually fairly negative for the UK economy now versus where consensus forecasts were. We were fairly positive before the vote because we thought people had been too pessimistic, but now I think people have been swung to being a little bit too positive. Okay, we've got a question here about the Canadian dollar. Yeah, we expect the Canadian dollar to go down over the next 12 to 24 months. Now the reason for that is, you know, we don't expect too much from oil prices. You know, we actually have a fairly kind of flat projection for oil prices, just around 50 or just above $50 going forward, so we're not going to get a big boost to the Canadian dollar from higher oil prices. And now financial markets, as I've been saying, they're probably pricing in a little bit too much for the Bank of Canada, and actually looking to the other way as well, probably a little bit too little for the Federal Reserve. So you get both of those impacts as well and you see the Canadian dollar or USDCAD kind of drifting higher into the 130s. So yes, we do expect the Canadian dollar to go down over the next 12 to 24 months, and that's because of this overreaction that we may be seeing at the moment to the Bank of Canada. Okay, this is a question we've actually had from a couple of people recently. Do you think the Bank of Canada managed the Canadian dollar higher in advance of the NAFTA negotiations? The short answer to that is no. I think, you know, the Bank of Canada basically has just reacted to the incoming data. You know, the week before the Bank of Canada's latest rate decision, we did get Canadian GDP prints showing 4.5% annualized growth in the second quarter. That was a full percentage point or maybe even a little bit more than a percentage point above most people's expectations. So it's really just been a reaction to the strong data. Now maybe if they were concerned about what was going on in NAFTA negotiations, maybe that could have played a role in them not kind of pointing out the strength of the Canadian dollar in terms of it being a detriment to growth. But actually, I think that that's probably something that they will do in October. People, you know, maybe are forgetting that, you know, the September rate decision, they didn't release a full updated forecast during that time, you know, they wait until October. So maybe if they want to put a line in saying the Canadian dollar makes profile for exports weaker than we previously envisaged, maybe they just want to have done the analysis and actually have the forecasts to do that. So that's a long answer. But the short answer is no, I don't think the Bank of Canada managed the Canadian dollar higher in advance of the NAFTA negotiations. We got a question here. Do you expect a rebalancing of the oil market and the impact on the Canadian market? You know, what's keeping oil in such a tight range in the moment is, okay, demand has been fairly good, but there is a lot of supply that seems to be able to come on stream kind of around the $50 mark, and that's obviously, you know, related to the US. And those costs do seem to have come down. We were expecting, you know, a year-or-so ago prices to reach around $60 because that was kind of the level where a lot of supply from the US would come on. It does seem that that's kind of come down a little bit. What we've, you know, had previously, and the slide wasn't in this presentation, but we actually have shown how much supply there is at certain levels of oil price. And there is kind of this kind of very fat belly between kind of $50 to $60 where a lot of supply can come on. So what we're expecting, you know, based on our global growth forecasts and based on what that means for commodity demand, you know, we probably will be over that belly of that supply curve maybe in 2019, maybe in 2020. And that would actually be the point where we see potentially a bigger increase in oil price, but for the moment, we're kind of stuck in this kind of very middling range in terms of oil. I'll take another question here on the government. With the economy performing strongly this year, should the federal and provincial governments be making more of an effort to pay down debt rather than run deficits? Without getting too political, you know, I think it probably would make a little bit of sense for the federal government to still run some deficits, maybe they don't need to be as big as envisaged because, you know, there is quite a big mismatch at the moment between the amount of debt that's been held at the provincial level and the amount of debt that's been held at the federal level. So the federal government can afford to take on a little bit more debt, but if it does so, it could say to some of the provinces, particularly some of the provinces where debt levels are higher such as Ontario and Québec Look, we'll do our part, we'll be spending, we'll do our bit to support the economy, you know, what we need you to do is to try and reduce those debt levels. So, you know, really, that's as much of a situation in terms of the mix of who is holding the debt rather than necessarily the overall debt level that's being held by the federal and the provincial governments. So a quick question here. Thoughts on the Asian economy, (outside of) China. Yeah, I do apologize. We tend to spend a lot of time on China at the moment. That is kind of a big driver of the global economy at the moment. Outside of China, you know, really the key threats to a lot of Asian economies are, firstly, a very strong US dollar because they have a lot of debt that's priced in US dollars, and recent depreciation that we've seen in the US dollar is actually positive for those other Asian countries. And also, you know, just the trade that we're seeing in and out of China as well. China is starting to trade more increasingly over the last few years within Asia, not just relying on demand and supply from the likes of Europe and from the likes of the US. So that kind of inter-Asia trade is also becoming very big as well. So those two kind of factors, you know, we are pretty positive in terms of the rest of Asia. The key threats will be, you know, how high interest rates go, and if the US dollar does strengthen and by how much. Just going through a few more of these questions. I think we have time for a couple more. Is that right? So we've had the Brexit question. Okay, there's a question here, so I've answered a question about oil already in terms of rebalance, and there's a question here just, you know, if there is a large swing in terms of oil price over the next six months, is it more likely to be up or down? I hate to be a pessimist, but it's probably, you know, until we see demand in terms of global demand for oil being strong enough to get over what can be produced by the US, I think there are more negatives in terms of oil than positives if there is going to be a big swing. We don't expect a big swing. But if there is going to be a big swing, it's probably going to be due to a rebuild in inventories, which drags down prices rather than necessarily anything that boosts them over the next few months. Okay, this is the last question. Do you think renegotiated NAFTA agreements is going to have a major impact on US and Canadian trade balance? Because we have, you know, fairly limited details about, you know, what an agreement would actually be at the moment, this is a difficult question to answer. You know, what I would suggest is that maybe the balance could stay roughly the same, maybe even improve slightly in Canada's favour, but some of the two-way trade or the growth in two-way trade, which in itself is positive for the Canadian economy, that could actually pick up. So as I said, you know, previously, we have lost a lot of capacity in terms of the auto sector, so we're not just talking there about exporting finished goods to the US, but the value is kind of two-way trade, we do import parts and then export parts as well. And a lot of that has really, you know, over the last 10 or 15 years, firstly, a lot of US production has moved further south in the US to be closer to Mexican suppliers, and Mexico has become a much bigger part of that. So, you know, that's potentially where the positive of a renegotiated NAFTA for Canada lies. Whether that would be an improvement in the trade balance or whether that would just be a pick up in the growth rates or the average growth rates of two-way trade, so imports and exports, is kind of difficult to say at the moment, but, you know, there are some potential positives there for Canada when it comes to NAFTA as well as negatives. 


Thanks again, Andrew. It looks like that's all the time we have for today. 

[Thank you] 

[The webinar is over.] 

Andrew, I'm sure I speak on behalf of all the audience that we all thoroughly enjoyed listening to your insight. 

[Thank you for joining us. We'll email you a link to a replay soon.  The link will also be available on the CIBC Investor's Edge website for a limited time.] 

Thank you for such a great presentation. On behalf of CIBC Investor's Edge, I would like to thank the audience. We really appreciate you being here. Should you have any questions or comments, please visit the Investor's Edge website or please feel free to get in touch with us by phone, chat, or email. Thank you for joining us today, and we will see you next time.