MNI BOC State of Play: Lower GDP Supports BOC Cautious Tone

--But 3Q Economic Slowdown Factored In By BOC

By Yali N'Diaye

     OTTAWA (MNI) - August GDP was weaker than what analysts had expected, as it

declined 0.1%, posting its first contraction since October 2016, supporting the

Bank of Canada's more cautious tone of late, as well as the prospect of a third

quarter GDP slowdown.

     The goods sector was responsible for the poor performance in August, with a

0.7% decrease resulting from widespread weakness, led by manufacturing and oil

and gas extraction, while services continued their march higher (+0.1%), albeit

at a slower pace.

     Assuming September was unchanged, third quarter GDP would be up 0.4%, or

1.5% on an annualized basis, meaning it would take a significant rebound in

September to allow the third quarter GDP to even reach half the pace of the

second quarter's 4.5% annualized growth rate.

     Meanwhile, producer price data also released Tuesday by Statistics Canada

showed the appreciation of the Canadian dollar played a big role in dampening

prices as goods leave the plant gate, with the industrial product price index

down 0.3% in September. Without the impact of the 2.6% appreciation of the

loonie relative to the U.S. dollar, producer prices would have increased 0.3%.

     However, much of this scenario was factored into the BOC's latest economic

projections from released October 25.

     The BOC expects real GDP to expand by 1.8% in the third quarter, before

picking up to 2.5% in the fourth quarter.

     In addition, much of August's drop was due to a 1.0% fall in manufacturing

output, with Statistics Canada mostly citing a technical factor: "temporary

reduced capacity," notably in chemical manufacturing on the back of maintenance

shutdowns, although weaker exports were also cited for that industry.

     On that front, it will be interesting to see whether BOC Governor Stephen

Poloz or Senior Deputy Governor Carolyn Wilkins also attribute August GDP

decline in large part to "temporary" factors when they testify before the House

of Commons Standing Committee on Finance from 3:30 pm ET Tuesday, as the topic

could well be raised by lawmakers.

     Any sense of a disappointment by August GDP numbers expressed by the BOC

officials could also mean they believe downside risks to their scenario have

increased.

     Excluding manufacturing, GDP was flat both in August and July. 

     Energy, especially oil and gas extraction, was also a key negative

contributor in August, with a 1.5% drop on the month. But here too, Statistics

Canada cited in part maintenance shutdowns in Newfoundland and Labrador that

affected conventional oil production.

     Excluding energy, August GDP edged up 0.1%, the same as in July.

     Besides, despite the weak headline number, output increased in 12 of 20

sectors, representing about 60% of GDP, although it was all concentrated in

services.

     On the price front, the BOC actually expects the pass-through impact from

the recent appreciation of the Canadian dollar to increase, from subtracting 0.2

percentage points from inflation in the second half of the year, to subtracting

0.5 points in the second half of 2018, when the impact is expected to peak.

     With the GDP slowdown and the foreign exchange impact factored in, eyes are

already likely on the ability of the Canadian economy to recover in the fourth

quarter of 2018, which would then confirm the scenario of a gradual and cautious

tightening ahead.

     The BOC, however, continues to stress there is no predetermined path for

interest rates, and economic capacity and wage growth will be particularly

monitored in that regard to inform its decisions. On that front, wage data for

the first month of the fourth quarter are expected Friday, when Statistics

Canada publishes the October Labor Force Survey.

     Analysts in a MNI survey expect the unemployment rate to remain low at 6.2%

despite a 15,000 employment gain.

--MNI Ottawa Bureau; +1 613 869-0916; email: yali.ndiaye@marketnews.com

[TOPICS: M$C$$$]