Remarks
-
Carolyn A. Wilkins Senior Deputy Governor
Calgary Chamber of Commerce
Calgary, Alberta
May 30, 2019
Economic Progress Report:
Investing in Growth
Introduction
It's a pleasure
to be in Calgary to provide an update on the Canadian economy
and to discuss the decision we made yesterday to leave our key policy rate
I'd like to thank the Calgary
unchanged. Chamber of Commerce for the invitation.
There's
There is certainly a lot to talk about regarding the outlook. the trade war
between the United States and China. And, here at home, there are the
challenges of operating in the oil and gas sector as well as delivery constraints
affecting a broader range of products. It's fair to say that Alberta and other
energy-intensive regions have been on an economic roller coaster over the past
few years. This has led to painful adjustments for many of you here and has also
on Canada's bottom line.
weighed
Canada's economic performance
Seen from a macro perspective, nonetheless,
has been relatively solid. That's the perspective that
we, as central bankers,
need to take to meet our inflation objective. For much of the past couple of years,
the Canadian economy overall performed near full capacity. The unemployment
rate fell to historic lows while wage growth improved. In this context, Governing
Council raised the policy rate during that period toward a more normal setting.
Inflation is currently at around 2 per cent, and our core measures have been
hovering around this level for a while.
Unfortunately, several developments at the end of 2018 and beginning of 2019
have set us back. As you here in Calgary know all too well, there was the drop in
oil prices last autumn and ongoing transportation constraints. Escalating tariff
actions by the United States and China, and related tensions, have undermined
trade and business investment. And housing, a linchpin of the recovery since the
crisis, slowed sharply.
We said in our April Monetary Policy Report (MPR) that these developments
have led to a detour for the Canadian economy. We projected much softer
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growth in the first half of the year, before a pickup over the rest of 2019. We
won't do a new forecast until our next report in July, but
the data we have so far
suggest that our April view is largely on track.
And I'll
I'm going to talk about why we continue to expect a pickup in growth.
highlight the main points of discussion among Governing Council members that
led to yesterday's
decision.
a critical
Let me first spend time on the outlook for business investment since it's
piece of our forecast. Investment is at the core of productive businesses no
or sector you are operating in. It's also the foundation of
matter what region
vibrant, sustainable economic growth. Our living standards depend on it.
Why investment matters to living standards
So, how does business investment influence our standard of living?
Investment makes workers more productive by increasing the capital that they
have to work with. You can clear your driveway faster with a snowblower than
with a shovel. And new investments typically harness the latest technology,
which further boosts the productivity of workers and firms. The energy industry
uses fibre optic monitoring to keep pipelines and other critical assets performing
as well, and as safely, as they can.
This type of investment, while involving some risks to the business, can have
major payoffs in terms of greater competitiveness. It can also have payoffs for
Canadian workers. Higher productivity growth means stronger growth in wages
and incomes.1 And the economy overall can grow faster without causing
inflationary pressures to build.
There's nothing like a few numbers to
illustrate a point. The scope for the
Canadian economy to expand without causing inflation-potential output
growth-has averaged just under 2 per cent over the past 15 years. Around half
of that has come from growth in the labour force. At the same time, steps by
firms to increase their productivity through investment, a process known as
capital deepening, have also been vital to potential growth. In fact, capital
deepening has accounted for around 0.6 percentage points of potential output
growth per year.2 Up until 2014, about one-third of this came from investment in
Alberta.
Thanks to this capital deepening, gross domestic product (GDP) in 2018 was
higher than it would have been. That's
some $177 billion almost $5,000 per
and that's a
Canadian, benefit we should receive every year going forward.
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Global and Canadian economic context
Investment is incredibly important to all of our bottom lines, although what goes
into the decision to invest varies across firms. There are nevertheless a couple of
common elements to build on. The most obvious is the current economic context,
both globally and in Canada, as it relates to future sales and financing costs.
This context for investment, and global economic prospects more generally, is
obviously heavily influenced by developments in the two biggest economies in
the world. The trade war that the United States and China are waging is
damaging not only their own prospects, but also those of the rest of the world.3
Now, we had been expecting the global economy to slow last year. The US
economy was growing at nearly 4 per cent heading into the second half of 2018,
well above its non-inflationary speed limit. We knew that the combined effect of
interest rate hikes and the fading impact of tax cuts would bring US growth to a
more sustainable pace. Some other central banks, including the Bank of Canada,
were also taking steps to bring monetary policy settings toward more normal
levels. And in China, financial regulations were tightened to slow borrowing and
support financial stability.
The trade environment, however, has made the global slowdown worse than had
been expected. It has undermined business sentiment and held back investment
decisions in dozens of economies, including Canada's.4 The slowdown in
investment has weighed on global trade as well, as firms put off the spending
that is needed to increase their capacity to export.
Our April forecast estimated that trade uncertainty, including uncertainty with
respect to the ratification of the Canada-United States-Mexico Agreement
(CUSMA), would cut the level of business investment in Canada by about 2.5 per
cent by the end of 2021. We also estimated that it would cut the level of exports
by 1.2 per cent.
Overall, we said growth in Canada will slow to 1.2 per cent this year from 1.8 per
cent in 2018. Slower growth isn't all about trade
uncertainty and the global
slowdown. This outlook also takes into account the effect of lower oil prices and
transportation constraints in energy-intensive regions. Growth excluding these
energy-related factors would be 0.3 percentage points higher. The outlook also
accounts for the housing slowdown, which has been deeper and more prolonged
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than expected, particularly in the greater Vancouver and Toronto areas. I'll get to
that later.
no surprise that
Given these developments both in Canada and globally, it's
policy-makers responded. Since the beginning of 2019, the US Federal Reserve
and other central banks have signalled a slower path back to normal monetary
policy settings. And China has announced stimulative fiscal and monetary policy
measures. Global financial conditions have eased and market sentiment has
improved as a result. This has helped boost the prices of oil and other
one of the
commodities so far this year. And it's reasons why our April MPR
called for a firming in the global expansion later this year.
The wild card, of course, is the trade war.
How costly are trade wars for the global economy? In April, we said tariffs over
the past two years and trade policy uncertainty would chop 0.4 per cent from
global GDP by the end of 2021-that's about US$350 billion. While this can only
be a rough estimate, we know it matters more for trade-dependent economies
like Canada's.
Where investment will come from
So, where does this economic context leave the outlook for Canadian business
investment? We expect it to expand gradually overall, led by firms outside the oil
and gas sector. It should be strongest in areas where companies have
confidence in future markets and sales and need to invest to expand capacity or
to become more productive. Attractive financing costs like those we see today,
as well as recent incentives put in place by the federal and some provincial
governments, are also key ingredients.5
According to businesses that responded to our spring Business Outlook Survey,
investment plans are still healthy in most regions. This is particularly true in
services industries, such as information technology (IT), where demand is solid.
Recent data suggest that investment in the non-energy sectors has started off
the year in positive territory.
Investment in IT and digital technologies has been particularly strong in Canada
and around the world for several years now. Digital economic activities, in fact,
make up about the same share of nominal GDP in Canada as mining, oil and gas
combined.6 And the third-largest digital economy in per capita terms is in Alberta.
isn't just transforming sectors; it's transforming
Digitalization services-oriented
resource and goods-producing sectors too.
Data-driven farming on the Prairies is a good example, as farmers work to
harness big data in ways that economize on fuel and improve yields. And the
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energy industry is using automation, artificial intelligence and machine learning to
cut costs and lower emissions.
Digitalization of business activity is encouraging investment across the country in
areas such as computer equipment and software, as well as communication and
audio and video equipment. Growth in total investment may have lost some
steam recently in Canada and elsewhere, but it has continued to rise in many
areas linked to technology and intellectual property.
It's possible that some types of
investment are not showing up in the statistics
because they are intangible in nature. Of course, issues surrounding the
measurement of intangible capital have been around for decades. For instance,
computer software started to be included in investment in the 1990s.7 Even if
they're not showing up in official statistics, some types of investment
are
becoming more important to the global economy; technology to streamline
business processes, database development or moving servers to the cloud are
just a few examples.
When it comes to the energy sector, we expect the current adjustment to
continue. Between 2014 and 2016, energy investment dropped by 50 per cent. In
April, based on discussions with companies, we estimated that investment in this
sector would drop another 20 per cent before stabilizing. Investment should
average around $40 billion over the next two years-that's still 15 per cent of
total investment in Canada.8
As spending in oil and gas stabilizes, the growing investment in other sectors will
more clearly. I'd like to
show up in the headline numbers emphasize that we are
being prudent in our outlook. In fact, total investment as a share of GDP is flat
over the projection horizon. I've been in the forecasting business long enough to
know that one of the toughest things to call is when intentions will translate into
investment decisions.
Structural factors affecting investment
I also don't think
the trade war is the only reason for the disappointing investment
in Canada and globally. Even before the latest slowdown, a downbeat outlook
among firms about the strength of future demand contributed to weakness in
global business investment in the years that followed the crisis.9
A couple of structural issues are contributing to this. The first is demographics.
Population aging is limiting the growth of the workforce in Canada and many
other economies. This reduces the future returns to any investment by limiting
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economy's
the potential growth rate.10 The second issue is that the boost to
world trade and investment that came with China joining the World Trade
Organization in 2001 has run its course. Governor Poloz spoke about this last
month in Iqaluit.11
These longer-term structural issues aside, Canada is trailing on a number of
indicators that we know increase productivity and competitiveness.12 Among
these are investment in information and communications technology and in
research and development because other countries have been investing even
more than we have. And, companies across the country tell us that a number of
other competitiveness issues are holding back decisions to upgrade or expand
capacity in Canada. These are wide-ranging and include business costs, such as
electricity, and the regulatory burden as well as uncertainty around approvals for
projects. And when I'm talking with business leaders, I often hear about the costs
and lost opportunities because of barriers to interprovincial trade. So, as
business leaders and policy-makers, together, we have our work cut out for us.
can't be resolved by
These issues central banks. Still, to do our job, the Bank of
Canada needs to understand how these factors affect investment decisions. A
vibrant business sector, after all, is essential to a healthy labour market and to
our economic prospects.
Further details about yesterday's decision
The outlook for investment was only one of many factors that went into our
interest rate announcement yesterday. As I said, there have been some
encouraging signs that investment outside the energy sector has firmed up. Let
me take you through the other main points of our discussion.
Naturally, Governing Council spent time talking about whether the economy was
progressing as we had forecast in our April MPR. As a reminder, we projected
that the economy would expand at an annual pace of just 0.3 per cent in the first
quarter of the year. We also projected growth would rebound modestly to a
1.3 per cent pace in the second quarter and further accelerate later in the year.
Evidence has been accumulating that tells us our story is on track. We hope to
see this confirmed in the national accounts data that Statistics Canada will
release tomorrow.
We've worked hard to understand some conflicting signals in the economic data.
The labour market has been strong, with solid growth in jobs and steady growth
in wages. We've tried to square this strength with the weakness seen in the
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spending side of the economy over the past couple of quarters. It turns out that
this gap can be explained in large part by the behaviour of companies in the
construction and oil and gas sectors, which have been key drivers of the recent
GDP slowdown. Companies in these sectors have been generally keeping their
employment levels fairly steady, while reducing the hours their employees work.
This is consistent with firms believing that the economy has been going through a
temporary soft patch, exacerbated by the brutal winter experienced in so many
parts of Canada.
I should point out, though, that inventories have increased sharply because
we've had
continued production and strong import growth while at the same time
demand has been soft. To the extent that this buildup is unplanned, it may
dampen production in some sectors later this year. On top of this, there has been
flooding in Eastern Canada and Manitoba and terrible wildfires here in Alberta,
which reminds us that Mother Nature can be ruthless. These events are causing
severe hardship to many communities. And they may add some choppiness to
economic data.
Back in April, Governing Council said we would watch developments in three key
areas: household spending, oil markets and global trade policy. Much of our
latest discussions centred on these areas. In terms of household spending, we
have seen strong growth in labour income, which is supporting consumption.
Consumer confidence has firmed, and retail sales have picked up. Of course, the
housing market has been a concern in many areas of the country, including
Alberta. Recent data on starts and resales make us more confident that housing
markets in many places are falling more in line with fundamentals. Here in
Alberta, ongoing weakness in housing can be explained by adjustment over the
past five years to continuing challenges in the energy sector. The greater
Vancouver market, which had been quite frothy, is still adjusting. This follows
changes in mortgage financing rules, past increases in interest rates, and the
provincial and municipal measures aimed at discouraging speculation and
foreign buyers. Weather likely affected the Toronto area in recent months, and,
while we need to see more data, that market is showing signs of stabilizing.
decline, production has
In terms of oil, prices have recovered from last autumn's
started to increase, and profitability has started to improve. At the same time, we
know that curtailments and transportation constraints continue to weigh on
production. These should ease over time as rail capacity expands later this year
and as Line 3 is completed. This will bring a welcome boost to the Canadian
economy. We will continue to watch this closely.
This brings me to trade and the ongoing conflicts. There have been some
positives lately. The US government has dropped its tariffs on steel and
aluminum, and Canada has dropped its retaliatory measures. This should
improve the chances that CUSMA will be ratified. Other developments are
discouraging. China and the United States have escalated their dispute, and
Canada has been caught in the crossfire. Further, China has imposed new
restrictions that are affecting some Canadian farmers directly. On top of this, we
see the potential for more friction between the United States and European
Bank's work leading up to the next MPR in July will be to
Union. A big part of the
understand the implications of all these developments.
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Of course, the trade disputes are not just a short-term concern. There are also
longer-term implications for the global and Canadian economies. If some of these
disputes were to be resolved, that would provide a welcome boost to the
Canadian and global economies. But if the disputes were to worsen and become
long lasting, the outlook would be quite different. Not only would we see weaker
economic demand, but the supply side of the economy would also take a hit as
companies deal with disruptions to their supply chains. Obviously, this remains a
major preoccupation for us.
Governing Council also spent some time talking about prices in financial markets.
Since the start of the year, financial conditions have become more
accommodative in many economies, and this will help support economic growth.
We talked about the signals that we should take from a very flat or, in some
cases, inverted yield curve. These developments partly reflect a change in tone
by many central banks and, possibly, investor appetite for long-term,
fixedincome assets. They nonetheless also reflect a concern about the prospects for
growth that is not reflected across other asset classes. We continue to be
attentive to these signals.
Let's not forget that
we're a central bank that targets inflation. On that front,
inflation remains near 2 per cent. Some temporary factors are boosting inflation
and offsetting the modest downward pressure that is being generated by excess
supply in the economy. We project that these upward and downward pressures
will dissipate over the projection horizon, leaving inflation close to target.
Council's view that
Putting it all together, recent data have reinforced Governing
the slowdown in late 2018 and early 2019 was temporary. At the same time,
global trade risks have increased. In this context, the degree of accommodation
being provided by the current policy interest rate remains appropriate. In taking
future policy decisions, Governing Council will remain data dependent and
especially attentive to developments in household spending, oil markets and the
global trade environment.