Finance Minister Bill Morneau and those who work for him won’t like what they have been reading on the Blooomberg News ticker lately.
Last week, the Canadian wing of the news-and-data machine started by U.S. billionaire Michael Bloomberg introduced us to a new participant in the “short Canada” trade, a hedge fund called Crescat Capital that is betting against this country’s banks. And on Jan. 22, it published the provocative thoughts of Jim Mylonas, a strategist at BCA Research Inc., the Montreal-based research outfit that once employed Stephen Poloz, the Bank of Canada governor. “I think we’re just on the precipice of embarking on a serious recession,” Mylonas told Bloomberg. “It’s not a matter of if, but when.”
Hedge funds and prestigious forecasters are wrong all the time. But when you come across someone who is willing to bet millions of dollars that your economy is about to go bust, or when you see that one of the country’s most respected forecasting firms sees a recession coming, it’s gut-check time. Hopefully that’s happening behind the scenes in Ottawa, because there is little evidence the men and women in charge are willing to acknowledge the economy could be headed for a rough patch.
Consider this from Morneau at the cabinet retreat in Sherbrooke, Quebec last week, when asked about all the confusion over Brexit: “We don’t see this as something that’s directly problematic for the Canadian economy, but obviously it’s something that’s difficult for the global economy.”
I’m going to give Morneau the benefit of the doubt and assume that he simply forgot he was talking to sentient beings at that moment; in his mind, he must still have been retweeting the latest happy-talk lines from the Prime Minister’s Office.
Canada is a relatively small, relatively open economy that is dependent on exports and stable financial markets; difficult times for the global economy are always problematic for Canada’s economy. The United Kingdom isn’t the United States, and Brexit isn’t the U.S.-China trade war, but a turbulent divorce between London and Brussels will hurt Europe, and that would be felt most everywhere. It’s silly to pretend otherwise, and voters should feel insulted that the federal government appears to think that we can’t handle the truth.
Anyway, back to the outbreak of recession talk. A downturn is by no means the mainstream view. The International Monetary Fund on Jan. 21 shaved its outlook for Canadian economic growth in 2019 to 1.9 per cent from the previous estimate of two per cent. The Bank of Canada sees an expansion of 1.7 per cent. Both outlooks are decent, if slower than the past couple of years. “For the Canadian economy, it’s going to be fine,” Pierre Cléroux, chief economist at Business Development Bank of Canada, told me in an interview on Jan. 21. Alberta will struggle this year because of the crisis in the oil patch, “but for the rest of the country, the economy continues to perform well,” said Cléroux.
For the most part, recession forecasts have come from unreliable sources such as Doug Ford. The Ontario premier said on Jan. 21 that the risk that the carbon tax could cause an economic downturn is “very, very real.” That’s nonsense, as the few billions of dollars that the government might collect from the tax — all of which it says will be returned to taxpayers — equates to a sliver of Canada’s $2.2-trillion gross domestic product.
The hedge funds betting against Canada have a slightly better case. Bloomberg reported that Denver-based Crescat is shorting bank stocks because the Big Six “will be the ones to suffer from what is likely to be a major economic recession” brought on by a housing bust, according to Tavi Costa, an analyst at the firm.
The Big Six ‘will be the ones to suffer from what is likely to be a major economic recession’ brought on by a housing bust
Tavi Costa, Crescat analyst
Maybe. The problem with that hypothesis is it forgets that Canada’s banks are too big to fail; under no circumstance would Ottawa allow any of the largest lenders to get near the brink. Much of the housing debt is backed by the government anyway, and the banks must now keep plenty of cash on hand to act as a cushion during a financial crisis. Odds of a calamity are low.
Moody’s Investors Service estimates that a housing shock of the size of the one in the U.S. that triggered the Great Recession would be contained in Canada because the banks would absorb the pain, and because the construction industry is relatively smaller. Losses on mortgages might equal five per cent of GDP, which wouldn’t alter Canada’s credit rating, Moody’s said in its latest country assessment.
The credit-rating agency did acknowledge that a “sharp decline” in housing prices would hurt consumption, which gets to Mylonas’s outlook. The BCA analyst told Bloomberg that Canadian households are carrying too much debt to power through higher interest rates. “We’re now at the point where the Bank of Canada is going to be flirting with triggering the next recession if it hasn’t already,” Mylonas said.
For sure, all that debt has left Canada vulnerable. Just how vulnerable depends on your outlook for interest rates. Mylonas and others who share his view are convinced that the Bank of Canada will trigger a consumption-led recession by raising interest rates too high.
Yet Poloz, the former BCA analyst, indicated earlier this month that borrowing costs are on hold until the Bank of Canada is confident households can handle higher borrowing costs. The central bank sees what the pessimists see. The question is, does Morneau? It seems unlikely he’d tell us even if he did.
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