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By Jock Finlayson
and Ken Peacock

The threshold has been crossed. Canada’s largest bank, RBC Financial Group, just published a report predicting that Canada will tip into recession in early 2023.

RBC’s call is unusual. Anticipating recessions is notoriously difficult. And it is uncommon for analysts at any of the country’s large financial institutions to even whisper the dreaded R-word until evidence of a downturn is overwhelming.

Jock Finlayson

Jock Finlayson

Ken Peacock

Ken Peacock

Storm clouds are clearly gathering, but at this stage, few indicators are pointing to an imminent recession. But the RBC forecasters see the skies darkening and expect a bumpy road ahead for the Canadian economy.

The case for a near-term recession is not obvious. Canada’s labour market has been drum tight for a year or more. The national unemployment rate has been flirting with record lows, and a recent Statistics Canada survey finds at least one million job vacancies spanning every region of the country.

Moreover, while higher global energy, food and industrial raw materials prices are undermining economic growth globally, Canada has enjoyed a partial reprieve and positive offset because we are big producers and exporters of oil, gas, metals, potash, and many foodstuffs that other countries are paying higher prices for.

Notwithstanding Canada’s fortunate exporting position, there are compelling reasons to believe our economy is set to cool. A deteriorating international backdrop is at the top of the list, as higher energy and food prices, persistent COVID-related supply chain problems, and the Ukraine war continue to take a toll on consumers and businesses around the world.

The World Bank recently slashed its 2022 global growth forecast by more than a full percentage point and cut its outlook for 2023 as well. America’s giant economy also seems to be losing steam, which matters to Canada since three-quarters of our exports are sold there. Equity markets have plunged as investors digest the implications of less favourable macroeconomic conditions. Other high-risk asset classes, like bitcoin and the wildlands of the broader crypto universe, have suffered epic selloffs.

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Another reason to anticipate a Canadian downturn is the sharp rise in interest rates here at home. Borrowing costs have risen steeply in the last six months as the Bank of Canada belatedly acts to tame runaway inflation by boosting its short-term policy rate.

Interest rates are also climbing in the U.S. and other advanced economies amid a worldwide inflation surge. Higher mortgage rates are already weighing on Canada’s overheated housing markets, with both sales volumes and transaction prices falling in the last two months. Many forecasters expect a 15 to 20 percent drop in Canada-wide established home prices from early 2022 through the end of 2023.

Meanwhile, the jump in Canadian household spending since pandemic lockdowns were eased is projected to wane in the second half of 2022 and into next year. Thanks in part to excessive government largesse, Canadian households padded their savings balances by some $300 billion in 2020-21. That helped fuel spending on houses and consumer goods – a trend that’s unlikely to last. As pandemic-related restrictions continue to wind down, consumer spending should shift toward services, further dampening demand for durable goods.

While evidence that a recession has arrived is still thin, if the Bank of Canada continues to push its policy rate higher to tame the inflation monster and the global economy slows, then economic growth in Canada will probably come close to a dead stop by the end of 2022 before the country experiences a mild contraction in 2023.

Finally, it’s important to recognize that the capacity of the Canadian economy to grow and provide more goods and services is also relevant to any discussion of the medium-term economic outlook. Unfortunately, the supply-side potential of our economy is barely expanding due to a pattern of weak business investment, lacklustre productivity growth, and ever-rising government tax and regulatory costs.

The Trudeau government has no convincing plan to address this complex problem, apart from dialling up already high immigration numbers. In the long term, Canadians can’t expect to demand and consume goods and services at a pace that exceeds the economy’s ability to produce them. That hard lesson will become clearer as we move past the COVID pandemic and the other shocks that have recently roiled the global economy.

Jock Finlayson is a Senior Fellow at the Fraser Institute and a Senior Advisor at the Business Council of B.C., where Ken Peacock is the Chief Economist.

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