Transcript
Hello and welcome to The Download. It is a rate decision day from the Bank of Canada. They're working hard. They made a tough decision, which is why we always bring on days like this Canada's hardest working economist, Eric Lascelles. Eric, we've got you working even harder today because you forgot your headset for the broadcast.
This is now officially manual labor.
And I think we've had some complaints from your previous appearance that you're a bit of a heavy breather to begin with, and now it's going to be really tough today, Eric.
I guess. I will just hold my breath and hope for the best.
Well, I'm in Winnipeg. For anyone listening, does anyone know the name of the airport here in Winnipeg? I think you do, Eric.
Is it the Winnipeg Jets?
It is not the Winnipeg Jets. That is the hockey team. I can give you a hint.
I’m thinking of Richardson, but I don't remember why. Tell me.
That's right. It's the Richardson airport here in Winnipeg. But I want to be clear for the listeners, I am not part of the Richardsons that the airport was named after. I am part of the struggling Richardson family of Atlantic Canada, and not the very successful Richardson family here in the middle of the country. But nevertheless, it's always nice. My kids like it when we fly in here and they see the name of the airport.
Hey, Dave, is that not the highest frequent flyer achievement when the airport is named after you? I could believe you getting that.
I keep waiting to land at a Lascelles’ airport because you'd probably beat me. Well, we'll compare points for the year. But the points that people are interested in are the basis points that the Bank of Canada has taken off their overnight rate. Eric, what did they decide and what do you make of it?
They took 50 basis points off, which is a pretty big number. Keep in mind, the Bank of Canada has been moving for a while, so this is not new. They've been cutting. And of course, the policy rate was as high as 5%, and now it's 3.75%. So there's been a fair amount of ground covered. But what was new this time is that it wasn't the old standard 25 basis point or quarter percentage point move. It was twice as big. It was 50 basis points. Not a shock. Not to say it was signaled precisely, but nevertheless, between some weaker inflation numbers and some permissions being given implicitly by a similarly sized Fed action in September, it was what the market was expecting. You did have some people still forecasting a 25. Dave, you may have heard some tongues wagging that it should be a 75. So there was a range of debate, but nevertheless, the 50 was as expected. I think it is broadly justifiable. You look at the two key considerations for almost any central bank, and it's how the economy is doing and where inflation is. And on both fronts, Canada can cut rates. On the economic side — and this came right out of the Bank of Canada's accompanying monetary policy report — they've thought for a while that there's some economic slack out there, and they think that at least the midpoint of their estimate is there's a percentage point and a quarter output gap. That is to say the economy is a fair distance below its potential. I think that probably squares nicely with an unemployment rate that's gone up quite a bit over the last year and a half or so. So the economy is, and has been for a while, supportive of rate cuts. Of course, it was inflation that generally wasn't, and the latest inflation print for Canada is 1.6% year over year. And it's not quite as good on the core side. Not to say that inflation is now suddenly too low or they need to scramble like crazy. But nevertheless, the headline numbers and even beyond, it would suggest, yes, you can cut rates a fair amount, particularly since we are still in the business of going from a restrictive rate down to eventually a neutral rate. We're not really talking about adding stimulus. Actually, when you look at the economy, you could say maybe the economy does need a bit of stimulus. So a pretty easy decision to cut, I think, and to cut by 50 basis points. The statement itself did talk explicitly about more rate cuts coming. The quote expected to reduce the policy rate further. Of course, they've done it several times, but they had been more coy about it in the past. I think you would say that if they're talking that clearly, maybe we should be thinking about a 50 basis points in December as well. We'll see what the data looks like. But I would say as a default, maybe we could get into the low 3% as early as the end of this year, which certainly would be ahead of schedule versus expectations in the spring.
And I'm just going to jump in here because my mom was over the other day and she said, Dave, what's a beep? And I said, well, it's one one-hundredth of a percentage point. So 50 beeps is one half of 1%. That's what they're cutting. And so we talk in beeps, just to keep things fast and quick, because Eric's a bit of a slow talker and heavy breather, too. So we don't want him to waste any more time explaining things. But we talked about for a little bit the idea that for a couple of years, at least now, Eric — and you can probably be more precise than I can — but outside of the very short end of the yield curve, basically the overnight rate in 30 or 60 days, the yield curve in Canada was about 75 basis points below. Those first three cuts of 25 basis points, that absorbs the cushion. And then, wow, lo and behold, the Federal Reserve, I think, surprises us a little bit, but not completely out of what we would realistically have expected from them. Last month, it cut 50 basis points. So here comes Canada again. You've got that 50 basis points to give, and away you go. Do you think the Bank of Canada is stuck to coming down at the same pace as the Fed, or is the economic conditions here so different that they may even go a little bit faster as we move forward?
Yeah. Well, I think it's a bit of both. They certainly pay attention to the US, in part because the US is this big economy that significantly determines Canadian growth. You could even argue US rate cuts mean Canada needs to cut by less if you wanted to, because the US economy looks a little bit better. Not only that's the Central’s way of thinking, but nevertheless, the US does matter on a few fronts. That said, there's plenty of precedent for the Bank of Canada, if needed, deviating by up to a good 200 beeps table. We'll use the beeps short form, higher or lower. So it's certainly possible to get some distance away without breaking any precedent. Obviously, the currency is in play when there are deviations. The Canadian dollar is slightly softer today, as an example, and reflecting that 50 basis point cut. So I don't think the Bank of Canada was unable to cut by this much without the Fed doing it, but it did normalize it a bit. I think the concern before the Fed had been that 50 basis points smacks of panic, and you don't want that perspective tattooed on you. But the Fed managed to do it elegantly enough that people said, hey, it's a celebration of lower inflation, and this is now the Bank of Canada's celebration of lower inflation as well, I guess. And I'll mention this, too, by the way, on the inflation front: core inflation is still a little above 2%. It's around 2,4%, depending on the metric. Headline is 1,6%. It's not going to stay there. There are some funny base effects. It's probably going to be back into the low 2%, but still a pretty good place to be. Do note that inflation — and Vivian Lee and my team just did this math, so I'm proud to share it — inflation excluding mortgage interest payments. Just that one thing is sitting at 1.0% right now, which is quite low. That's actually the very low end of that 1-to-3% range the bank talks about. Not to say mortgage interest rates don't matter — because, of course, those payments are a huge fraction of a lot of people's expenses and rising quickly, and so they matter a whole lot — but I mention that just to say that when the bank of Canada is deciding whether to cut rates or not, if they cut rates, they can actually help mortgage interest payments. You wouldn't want to say, we can't cut rates because mortgage interest payments are high. That shouldn't be part of the CPI you're looking at when you're deciding if you should cut rates. If you exclude that, actually, it's a 1% type number. It certainly does justify some movement. Looking forward, I am assuming the Bank of Canada does move a little quicker than the Fed over the next year as well. I think there is room for more action, and it may hold the currency back. We'll see. There are some other forces as well, but I do think they can move a little more. It just makes sense if the economy is weaker, and the rate sensitivity is higher.
I imagine many of the listeners, me included, have mortgages. And when we look at the Canadian mortgage picture, so many Canadians are either sitting with a variable rate mortgage or they locked-in maybe in 2020, 2021, 2022 at much lower rates for longer terms. Those longer terms are really starting to come to maturity now, say, through 2025, 2026 and early 2027. So that relief on rates overall, and what we've seen in terms of longer-term rates as well, which impact the longer end of the mortgage rates, that could provide some relief down the road along with what it does to help stimulate the economy today. Could that even be part of the Bank of Canada's thinking here that they see what's happening down the road?
For sure. We all know this mortgage reset wave is underway, of course, and it's been underway for a while, but it's certainly coming in a big way over the next year and a half to two years in terms of the people who locked in those super low rates in 2020 and 2021, coming up for renewal in 2025 and 2026. And so, yeah, there is an extra bit of pressure for the Bank of Canada, if conditions permit — and they are broadly — to get those policy rates, and by extension, those mortgage rates down into a more tolerable territory. Obviously, ultimately, you got to do what's right for the economy and for inflation. And I don't think we're going to go back to 1.5% five-year rates. That was a pretty exceptional moment in late 2020 or early 2021. And so there's still, almost regardless of what the Bank of Canada does, going to be some pain and some adjustments necessary. But it does light a fire under the Bank of Canada and puts them in a better position to cut more. And it's even, by the way, what motivated the Bank of Canada to stop hiking rates, now looking back a year, at 5% instead of 5.5% in the US. They knew the Canadian economy couldn't handle it to the same extent. Obviously, there is some real suffering, and people have already rolled into higher rates or had variable rates that exposed them, or HELOCs even more so, that exposed them pretty quickly to those higher interest rates. So we know there's some suffering, and we can see the average Canadian is spending less than they were a year ago, which is not the normal state of affairs. And we think it's because they are very much prioritizing — I would say rightly so — servicing their debt. And so there are already consequences. We've seen delinquency rates rise. They're not trivial. But I will say equally, I think we are right, at least through the lens of an economist and maybe the lens of investors, to think about this in terms of the economic drag that it imparts and how it could be still a bit of a grind for the housing market to fully recover from this, as opposed to thinking about it as being a financial stability issue. Because when we look at the mortgage delinquency rate in Canada, amazingly — I just checked this number this morning — it's 0.19% of mortgages. That is a very low number. It is up from 0.14%, which is where it was before all this began, so it's gone up. But for context, a normal mortgage delinquency rate going back a decade or two was more than double that. The US, during the financial crisis — of course, centered on US housing — the mortgage delinquency rate there was 11%. That’s 50 times higher. It's a bit of an apples and orange's definitional differences, but I would comfortably say it was an order of magnitude higher. It's a source of pain, and it's certainly a drag on the economy. I wouldn't look for heroically fast growth over the next few quarters. We think it's going to be a bit of a grind before those rate cuts take effect and the economy picks up pace a little bit later. But nevertheless, equally, it's not a financial crisis in the making as far as we can tell.
Well, we think of those things that are almost uniquely Canadian: hockey, Tim Hortons, the Loon, la crosse, cold winters, Maple Leafs. And Canadians paying their mortgages. It's just part of the archetype of Canadians, financially, that mortgage payment is just always made on the spot. You've got to get into a lot of stress until you see that move. It's one of the interesting things, being in financial services, that I learned over the years about my countrymen. When they make a commitment, they follow through. The interesting thing, Eric, is how low rates can go? And on the flip side of that, how low do you think the Bank of Canada will be comfortable with allowing the dollar to fall? Do you have any lens on that or any thoughts on that?
Yeah, they're good questions. I wouldn't say I've got a formal house view, but I can give a few thoughts. One would be — and again, this is my personal thinking; I'm not expressing a formal firm view — but I'll just say, I think there's a fair distance the Bank of Canada can still go on the policy rate side. I know there's a debate. Can they get to 3%? Can they go beyond? I think they can go beyond 3%. I think they can get their way into the 2%. I do think that there's a fair distance. I'm not sure into the 1% unless something went wrong with the economy, but I think you can get far enough into the 2%. It's a bit trickier when you're talking about a five-year mortgage rate. Let's recognize they're already down quite a bit from their peak. And of course, that relates in part to the five-year yield being down quite a bit. Our formal house view is that term yields don't necessarily fall a whole lot more over the next year. A lot of the cutting is now priced in. I wouldn't assume that if the Bank of Canada can go another percentage point or something, that therefore the five-year mortgage rate is going to fall another percentage point, it might find itself stuck somewhere in the 4%. I'm hopeful maybe the low 4%, but nevertheless not necessarily into the 3%, let alone the 2%, let alone the 1%. And so I guess that's the thinking there. So it should get a little bit better, but it will still be a higher rate environment in a more expensive mortgage environment, even, I suspect, when the Bank of Canada is done cutting rates. And on the currency side, here we are, and I'll just speak in the common parlance, which is we're in the low 72 cent range, or 1.38 if you're a sophisticated financial type. And it's tricky, obviously, to the extent the Bank of Canada is cutting and could outpace the Fed and could even do a little bit more, in my personal view, than the market thinks. That is a scenario where you could have a currency that's a little bit softer. We have been weighing that against a few other forces. One of those would just be the US dollar is already really expensive and the Canadian dollar is already really cheap. Canadian dollar deserves to be cheap, but it's already cheap. For people who think it's going to go to 50 cents on the dollar, which you hear expressed here and there, I guess never say never, but I'm not expecting that. I think that this weakness, a good 12, 13 cents below purchasing power parity already to my mind, helps to accommodate for what has been poor productivity and slow growth and lower rates and that thing. I would say to me, the risk to oil prices is more up than down. That's also a currency relevant consideration. So if the Bank of Canada really goes after this and does a 50 next time and keeps going pretty quickly, then of course, there could be a softer currency. But I would still think on the order of a center to it, as opposed to bigger, and I would just say that I think equally over the medium run, the currency is pretty cheap, and there may be some room for it to appreciate, maybe on the back of oil, maybe on the back of technicals and valuations, maybe just on the back of the idea that while there are very real economic challenges in Canada — housing is weak and consumers are overwhelming and productivity is nowhere to be seen — I will say that I wonder whether we're in the realm of peak pessimism, if that makes sense. Rates are falling and housing has stabilized to some extent, and we can maybe see a light at the end of the tunnel. And as a result, I would say that maybe this is close to as bad as it gets for the currency and close to as bad as it gets for the economy. We're assuming it's a grind for the next few quarters, but I'm hopeful that as we get into the middle of next year, in particular, we could start to see somewhat better growth, even in beleaguered Canada, which has been moving pretty slowly.
So Eric, I was reading a couple of reports over the last 24 hours with different forecasters looking out into 2026 amongst the G7 and actually having Canada as the top grower, even above US in 2026. And this combination of lower rates, faster, and getting ultimately lower, and the currency being weak generally does help the economy. If oil stays strong with that and the currency is right in around this area, that's a pretty nice recipe looking forward with stable housing for the Canadian economy to maybe get its legs and actually start to get at or near the front of the developed world in terms of economic growth.
That's a good summary. A good analysis, I think. A little bit of that is just rubber ball economics, which is whoever did the worst before gets to bounce the most. So to the extent that Canada could afford to pick up without overheating, then that makes the case as well, I think. One of the big sources of uncertainty — and I'm hopeful this resolves in a constructive way — but big uncertainty around the rate of immigration and productivity. In some sense, those two things added together are economic growth. We know the population growth side, the immigration side is set to slow, and there have been some tighter rules that should show up, though it does take a while and there are lags involved. Students admitted last month will still be here 3 years and 11 months from now. Not to say that it turns overnight, but we'll probably get slower immigration. But I don't know if that's necessarily going to be a big drag on growth, in part because I think that the indigestion from the big surge recently should be resolved over time in a way that could actually smooth things out and improve the economy. And realistically, a moderate rate of immigration is probably more growth supportive than a big surge or a big bulge all at once, which is what happens. I think conceivably that could be okay. Productivity has been negative, which is very strange. I don't feel dumber than last year, but maybe we all are. I don't know. I don't think I got my old computer out of the trash and started using it. But again, technically, productivity is lower, and some of that is just this surge of low-skilled immigration, and that resolves itself over time. But in general, I think it's a reasonable thing that productivity returns to a positive number, and as a result, we can talk about a bit more growth there, too. So I wouldn't say Canada is set to be the superstar economy necessarily, but I think there is room for some decent growth, and there should be room for some catchup growth, in theory, at least, when we work our way, at least into 2026, and maybe even in the second half of 2025.
I'm going to throw one more at you, and it’s from an investor that I was talking to the other day. He happens to travel around the country as I do, and you do. Everywhere in every city, we see all the construction. You're out on the highway, you see all the bridges and roads, and everything being built, buildings going up everywhere. How can the economy be so weak when there's that much going on in terms of infrastructure, which is clearly fiscal spending? In the US, it seems to have made the difference, but here it doesn't. How do you explain that? It looks busier than ever. I'm stuck in a traffic jam everywhere I go in every city because of construction, yet it's not translating into economic activity. It just seems like a disconnect to me.
Well, I'd like to think over the long run, more infrastructure does maybe drive productivity and helps at some level. I guess I'll just maybe put it this way: as much as government investment and even private sector, CapEx is significant and can move the needle. We've seen in the US these remarkable Inflation Reduction Act policies drive a significant amount of plant creation and so on. At the end of the day, the bulk of GDP is consumer spending, and consumer spending is pretty soft right now. I will say to the credit of governments, they have gotten into a bit of a rhythm when it comes to infrastructure. This is a very Toronto centric, but in Toronto context, they'll be building subway lines for the rest of my life, and when they finish one, they'll start doing the next one. That's how you need to do these things. You maintain the expertise and the companies stay alive, and you have a drill and just keep using it and so on. I think that's true in a lot of cities in Canada right now, and that's probably the right way to do it, and that is somewhat supportive. But the CapEx side is ultimately no more than a quarter of the economy, and you've got this other big chunk, which is just much more cautious consumer spending. I think that's holding us back. And again, the caution is well-advised. These are people struggling and juggling debt payments and interest payments, or even just anticipating them and saving up a bit of a nest egg so they can handle that. But ultimately, I think that's the part that's held us back. So both things are true at the same time.
Eric, I think you just gave some insights into just another reason why you're Canada's hardest working economist. I know you're down there in your spare time helping them dig those tunnels. Again, another real Canadian thing to do, helping out get those subways built because we need them in Toronto. And then, as they always say, we like an economist when rates are going down. We like an economist when growth is going up. We love an economist when rates are going down and growth is going up. And I think we're hoping that we're setting the stage to get some better economic performance in Canada with those lower rates, the relief for homeowners, people who have mortgages, what is all already doing in investment markets. Things, to me, feel like they're coming together quite nicely right now.
Yeah, I think that's right. And related to that and abstracting away from Canada, specifically, just fears of a recession have diminished. They're not gone. There are still risks, but they've diminished pretty nicely. And so, yeah, I think we're feeling fairly comfortable. You worry a little bit that there's complacency. Markets are feeling so good. It's a little harder for them to keep rising forever. But I think the main point is just that things are looking pretty decent. We do have some event risks in front of us, at least as we're recording this. There's an election in another two weeks in the US. We'll see how that goes. Hard to prejudge that one. There are some geo-political risks and so on. But the bedrock of the economic trend and the outlook is looking, I would say, more solid than it has in a while.
Yeah. And that just tease up our next episode, which will be next Friday with Eric for the US jobs report, the last one before the election. Maybe we'll get into the election a little bit as we get right to the finish line, what the possible implications are. So we'll talk through that. And as you say, that's the next big event on the calendar that investors and consumers need to be aware of. And so we'll get Eric's thoughts around that because I know he's done a lot of thinking about it. And one of the things that we know once the Fed starts lowering rates and we start to think about the risk of a recession relative to the hope that we have a soft landing in the economy, it's that employment in those months following those first rate cuts. That's so critical to giving you a clue on how things are going to pan out. So Eric, I'm looking forward to that number. I know there's going to be a lot of noise in it because of the hurricanes in the southern US, but it should be a really interesting number in terms of everything that's going on.
Yeah, that's right. It'll give us a really important read into things and then on to the election from there.
All right, Eric. Thanks as always for hopping on when interesting things are happening, like the Bank of Canada cutting rates. Taking all of the investment world aside and all economics aside, I love what this does for so many Canadians who have felt the pressure of higher rates. And when that release comes, it's such a nice feeling. And I'm glad that so many people are going to be able to take advantage of that. We'll see you next Friday, Eric. Thanks again.
Thanks a lot. Bye, everybody.